Democrats Seize on Financial Oversight After Goldman Suit/A Glare on Goldman, From U.S. and Beyond

Democrats Seize on Financial Oversight After Goldman Suit
By JACKIE CALMES
Copyright by The New York Times
Published: April 18, 2010
http://www.nytimes.com/2010/04/19/business/19regulate.html?th&emc=th


WASHINGTON — With the Senate scheduled to begin debate on a financial overhaul bill this week, the fraud suit against the Wall Street titan Goldman Sachs has emboldened Democrats to ratchet up pressure on Republicans who oppose the Obama administration’s proposal.

In a sign of the Democrats’ increasing confidence that they have the better of the argument in an election year defined by voter anger at big banks and bailouts, White House officials said Sunday that President Obama would take his campaign for a regulatory overhaul on the road in coming weeks.

That campaign will resemble his push that helped the health care bill past its final hurdles.

Mr. Obama in effect has made the measure’s fate a highly personal showdown with the Senate Republican leader, Mitch McConnell of Kentucky. Over the last 15 months, Mr. McConnell has sought to defeat each of the Democratic president’s domestic priorities in turn.

In a televised appearance on Sunday, Mr. McConnell asserted that Mr. Obama was “trying to politicize this issue,” and stoutly defended his argument in recent days that the Democratic bill would institutionalize taxpayer bailouts of big banks. On Saturday, Mr. Obama used his weekly radio and Internet address to denounce Mr. McConnell’s claim as “cynical and deceptive” because “he knows that it would do just the opposite.”

Republicans, Democrats and financial industry officials were reluctant to speculate about the fallout from the government’s civil case against Goldman, which was filed on Friday. Privately, there was widespread agreement that the attention to the Wall Street scandal would benefit the Democrats’ efforts to pass the most comprehensive overhaul of financial regulation since the Great Depression.

“I can’t comment on the details of that investigation or on the merits,” the Treasury secretary, Timothy F. Geithner, said on “Meet the Press” on NBC. “But I can tell you that I am very confident that we’re going to have the votes for a strong package of financial reforms that will bring derivative markets out of the dark, help protect the taxpayers from having to fund future bailouts and try to make sure we’re getting Americans some basic protection against fraud and abuse.”

Administration officials were especially unwilling to discuss the Goldman case because it was filed by the Securities and Exchange Commission, an independent federal agency. Also, they fear that being seen as exploiting the issue could hurt, especially amid suggestions from some Republicans and television pundits that the lawsuit’s timing was suspicious, coming so close to the planned Senate debate on the financial overhaul bill.

Just before the Goldman lawsuit became public, Mr. McConnell secured 41 Senate Republicans’ signatures on a letter opposing the Democrats’ Senate bill — enough opponents in theory to keep the bill from coming to the floor for debate. But now, the national media attention to the Goldman case has called that unanimity into question.

While Goldman denies any wrongdoing, the accusations against the Wall Street powerhouse provide real-life evidence for many Americans’ conviction that the financial game, as it is now played, is rigged against them. The accusations of fraud involve derivatives, the sort of complex financial instruments that helped to lead to the banking system’s near-collapse in 2008, and which the pending legislation would regulate for the first time.

Goldman is accused of creating and marketing derivatives tied to high-risk subprime mortgages, without telling investors that the mortgage bonds for the portfolio had been picked by a billionaire investor who then bet against them and profited immensely when the bonds failed.

Even before the Goldman suit, Democrats had become more assured that they would prevail in passing the Senate bill. That would give Mr. Obama another major achievement once it was reconciled with legislation the House approved last year and sent to him for his signature.

To be sure, the efforts by Mr. Obama and the Democrats to step up the pressure on Republicans could backfire and harden their position. But industry lobbyists and administration officials suggested over the weekend that the controversy surrounding Goldman would spur continuing negotiations this week before the Senate debate on a number of outstanding differences, like those on regulating derivatives.

Republicans might remain united on the Democrats’ first try to bring the bill to the Senate floor. But before long, some Republicans could break ranks and vote to permit debate, rather than risk filibustering tighter regulation of big financial firms.

Senator Scott Brown, the Republican from Massachusetts who has made a point of showcasing his independence, said on Sunday that he would be willing to work with Democrats on a compromise version. “We absolutely need to fix certain areas in financial reform,” Mr. Brown said on “Face the Nation” on CBS.

And on Monday, Mr. Geithner will meet with Senator Susan Collins of Maine, who was the last of the Senate Republicans to agree to sign Mr. McConnell’s letter opposing the Democratic bill.

Several Republicans on the Senate Banking Committee have worked with Democrats on the committee for the last year on bipartisan legislation, despite Mr. McConnell’s intervention at times against their talks. Unlike their actions with the less popular health care bill, which Republicans felt free to try to block, Mr. McConnell and other leaders have been careful to profess their desire for better regulation, and not to be seen as defending Wall Street — despite Democrats’ efforts to paint them that way.

“Look, I don’t know anybody in the Senate who thinks we ought not to pass a bill,” Mr. McConnell said Sunday on CNN’s “State of the Union.” “The question is, what’s it going to look like?”

Mr. McConnell was not specific about his objections to Democrats’ legislation until last week, when he argued that the Senate bill would create a “bailout fund” that would effectively guarantee future taxpayer rescues.

Democrats have countered that the $50 billion fund proposed would be financed by banks and other institutions, not taxpayers. The money would be used not to bail out failed companies, they point out, but to keep them alive for customers’ benefit long enough for the government to break the companies up and sell them to investors.

“Regardless of how the money is produced, it is a bailout fund that sort of guarantees in perpetuity that we will be intervening once again to bail out these big firms,” Mr. McConnell said on CNN.

In his appearance on NBC, Mr. Geithner said assertions that the overhaul would amount to a bailout were “absolutely not true.”

Senator Mark Warner, a Democrat from Virginia who has long been at the center of bipartisan negotiations in the banking committee, said on CNN after the Republican leader’s appearance: “One of the things that I think is a bit hypocritical — if there hadn’t been this fund, there potentially could be a gap in financing, right there, where the taxpayers could again be exposed.”

Mr. McConnell also criticized Democrats for rushing to the Senate floor with a bill that had received a party-line vote in the banking committee. That vote came after the committee’s senior Republican, Richard Shelby of Alabama, moved to vote on it as soon as the panel took up the bill, stunning Democrats, who had expected more than a week of debate on amendments.



A Glare on Goldman, From U.S. and Beyond
By GRETCHEN MORGENSON and LANDON THOMAS Jr.
Copyright by The New York Times
Published: April 18, 2010
http://www.nytimes.com/2010/04/19/business/19investors.html?hpw


Calls for increased scrutiny of Goldman Sachs emerged on Sunday as two congressmen pressed for investigations into possible taxpayer losses generated in securities sold by the firm, and the British prime minister also asked his nation’s securities regulator to investigate the Wall Street powerhouse because of losses suffered by a major British bank.

A civil lawsuit filed against Goldman last Friday contained damaging allegations whose reverberations are just beginning to be felt. In the lawsuit, the Securities and Exchange Commission contends that Goldman misled investors who bought a mortgage-related instrument known as Abacus 2007-AC1 by not disclosing that the security was devised to fail.

Goldman has denied the allegations and says it will fight them.

The Abacus transaction cited in the S.E.C. case is just one of 25 such securities worth $10.9 billion that Goldman issued during the mortgage mania. Investors in the Abacus 2007-AC1 security lost $1 billion, regulators said.

The beleaguered American International Group also lost money in its dealings with Goldman on other Abacus securities. A.I.G. insured $6 billion of Abacus securities issued by Goldman; since the government rescued the insurer in September 2008, it has posted $2 billion in losses on these securities. A.I.G. received a taxpayer commitment of $180 billion to keep it from failing and causing havoc in markets worldwide.

Because the government has committed so much money to A.I.G., Representatives Elijah E. Cummings, Democrat of Maryland, and Peter DeFazio, Democrat of Oregon, are asking the S.E.C. to investigate all the Abacus deals issued by Goldman, and especially those insured by A.I.G.

The congressmen want regulators to determine whether fraudulent conduct by the investment firm contributed to billions of dollars in losses. If such conduct is found, the congressmen are urging the S.E.C. to recoup payments made by A.I.G. to Goldman.

Mr. Cummings and Mr. DeFazio are also asking the S.E.C. to refer matters that appear to involve criminal misconduct on the part of Goldman Sachs to the Justice Department.

“We request that S.E.C., with all due haste, pursue investigations into the remaining 24 Abacus transactions for securities fraud, evaluate the extent of any receipt, by Goldman Sachs, of fraudulently generated A.I.G.-issued credit default swap payments, and vigorously pursue the recovery of such payments on behalf of the U.S. taxpayer,” the representatives wrote to Mary L. Schapiro, the head of the commission, in a letter dated April 19. Mr. Cummings and Mr. DeFazio are still gathering signatures from other members of Congress to add to their letter, so it has not yet been sent.

A.I.G. collapsed in the fall of 2008 after the mortgage market plummeted. The company was imperiled when it was unable to supply billions of dollars in collateral to its trading partners as required under the insurance it had written on complex mortgage-related securities like Abacus. Goldman Sachs was one of its biggest trading partners.

The Abacus securities insured by A.I.G. were not among those that the Federal Reserve unwound in late 2008, paying the insurer’s trading partners 100 cents on the dollar for what they were owed.

A.I.G.’s participation was crucial to the success of many Abacus securities issued by Goldman Sachs. In the Abacus deals, a type of derivative known as credit default swaps were linked to mortgage bonds; those firms underwriting the swaps, like A.I.G., were essentially insuring that the mortgage bonds would perform well. When they did not, the swaps created enormous losses for those who sold them.

“We’ve got to look into every aspect of these deals and figure out exactly what went wrong,” Mr. Cummings, a senior member of the House Committee on Oversight and Government Reform, said in an interview on Sunday.

“And if people were participating in any type of fraudulent activity we need to expose it and they need to be brought to justice and we need to get our money back.”

Anger over Goldman’s dealings also surfaced Sunday in Britain, where Prime Minister Gordon Brown accused the firm of “moral bankruptcy.” He said that British regulators should investigate, and that he believed banks themselves would be considering legal action, without specifying which banks.

“We need a global financial levy for the banks,” he said in a television interview Sunday. “We have to quash remuneration packages such as Goldman Sachs’s. I cannot allow this to continue.”

The Royal Bank of Scotland and IKB Deutsche Industriebank of Germany lost just less than $1 billion after buying the Abacus investment vehicle constructed by Goldman. The Royal Bank of Scotland inherited a loss of $841 million after taking over the Dutch bank ABN Amro.

During the financial crisis, each bank was saved from collapse by their home governments. Together, Germany and Britain pumped about $83 billion into the Royal Bank of Scotland and IKB. Because of those bailouts, and with anti-banker sentiment on the rise as Mr. Brown and Chancellor Angela Merkel of Germany face political challenges, the complaint against Goldman will most likely serve as fodder not only for lawsuits but for proponents of tougher financial regulation.

As Britain prepares for a national vote on May 6 and the German state of North Rhine-Westphalia follows three days later with local elections that will have national implications, politicians in both countries were quick to join the chorus of condemnation against Goldman.

The German government has asked the S.E.C. for more information regarding IKB’s part in the scandal and might take legal steps, a spokesman said.

Legal experts said the potential liability of Goldman for losses suffered in the Abacus investments was an issue of debate.

Marcel Kahan, a law professor at New York University, said he suspected that much of the story had not yet been told concerning the strength of the S.E.C. charge. But based on what he has read, he said, the allegations against Goldman look bad but might not be illegal.

For instance, he said that those who lost money in the deal were sophisticated investors who knew what was in the financial instruments and could check them out for themselves. As such, Goldman may argue that there was no material misstatement or omission in the documents and statements that it provided investors.

Peter J. Henning, a law professor at Wayne State University and a former S.E.C. attorney, said he too believed that Goldman might mount a “blame the victim defense.”

“To fight the case, they have to focus on the investors,” he said. “These were very sophisticated investors who weren’t fooled by these transactions.”

Adam Pritchard, a law professor at the University of Michigan who teaches securities law, said the S.E.C.’s inclusion of IKB, the German bank, was important. “I think the S.E.C. has a pretty good argument here,” he wrote. “Conflicts are presumed, so the fact that Goldman had clients that were betting against these C.D.O.’s is scarcely material. The facts alleged here are different. It is one thing to know that there are others betting against you; it is quite another to know that the people betting against you are selecting the bets.”

A spokeswoman for Britain’s financial regulator, the Financial Services Authority, declined to say whether it would start its own investigation into Goldman. It is in contact with the S.E.C. regarding its investigation, she said.

Whether the British regulator begins its own investigation would depend on whether the agency came to believe any of the suspect activity took place in Britain or had an effect there.


Graham Bowley and Andrew Martin contributed reporting.