Inside Job (25 page)

But what of JPMorgan Chase? Bribe paying is widely considered dishonest, and it is particularly obnoxious for wealthy men in elegant clothes to extract $175 million in fees from county
ratepayers, most of whom are poor—and then wreak utter havoc on their government. But JPMorgan Chase has not been prosecuted. The two JPMorgan Chase executives primarily involved were fined
and barred from the securities industry, but they were not prosecuted either, even though one of them had a prior criminal record for a similar offence.

Jefferson County was not alone, although its story was worse than average. By 2008 there was between $300 billion and $350 billion in auction-rate securities (ARS) outstanding, issued by
thousands of state and local government entities. Investors were institutions and high-end retail investors, attracted by the money-market-like liquidity, at slightly higher yields. The minimum
retail investment was usually $25,000.

AUCTION-RATE SECURITIES ARE
the kind of complex product Wall Street loves to create. They make it look like bond sellers are getting a better deal, so
they will cough up higher fees, without understanding the risks that lie in ambush down the road. They offer bondholders a long-term debt deal at apparently low floating interest rates. But the
“long-term” part of the deal is a fake. What really happens is that the banks reauction the notes every three weeks or so to reset the rates and allow the investors to depart. But what
happens if nobody bids at the reauction? Rarely but occasionally, ARS auctions had failed before the crisis. In those cases, the investment bank that had underwritten them stepped in as a
short-term buyer until markets settled. But
thousands
of auctions failed during 2008, because investors pulled their money out of everything except Treasury bonds in a massive flight to
safety. And as the banks’ balance sheets started filling up with billions in failed
auction securities, they collectively stepped aside and let the market
collapse.
¹¹

As a result, issuers were suddenly faced with the need to pay prohibitively high rates, and many defaulted. The resulting collapse of the ARS market wiped out the retirement pension funds of
investors all over the US, as they found themselves with defaulted and illiquid securities. Attorneys general at the state level initiated lawsuits, as did class-action plaintiffs, and eventually
the SEC. Nearly always, the banks’ sales brochures and presentations had represented ARS as “completely liquid”, “as good as cash”, or as “money market
instruments”; and the banks’ sales forces continued to make such representations long after the industry was aware of the looming collapse of the entire ARS market.
¹²

Settlements with twenty-one banks and investment banks were reached in 2008 and 2009. UBS agreed to buy back $22 billion worth of ARS; Merrill Lynch, $19.5 billion; Wachovia, $9 billion; Morgan
Stanley, $4 billion; and JPMorgan Chase, $3 billion.
¹³

But the ARS fiasco is just one example of the high levels of predation and corruption found in municipal bond markets. A consortium of state attorneys general, the Justice Department, and the
SEC has been pursuing a long-running bribery and bid-rigging case involving more than a hundred municipalities and several large banks. Bribery and fraud settlements have so far been reached with
JPMorgan Chase, Bank of America, Wachovia, and UBS for multiple conspiracies with each other, with municipal officials, and with corrupt bid managers who steered municipal bond contracts to
banks.
¹⁴
The cases were settled with fines, and no bank or senior bank executive has been prosecuted, although several lower-level individuals have
been. There have also been similar “pay to play” scandals in the market for managing local and state government pension funds. One such scandal in New York involved Steven Rattner, a
prominent hedge fund manager and Democratic fundraiser who was once a strong candidate to become Treasury secretary in the Obama administration. Rattner reached settlements with the SEC and the New
York attorney general, agreeing
to pay $16 million in fines. Obama appointed him to run the government’s rescue of the car industry following the bankruptcies of GM and
Chrysler.

In 2010 Barclays Capital (which contains the remnants of Lehman Brothers’s investment banking division) began working with Del Monte Foods to arrange the sale of the
company to one or more private equity firms. However, instead of solely representing Del Monte’s interests, Barclays secretly began to work with KKR and Vestar, helping them to coordinate a
joint bid rather than generating a competitive auction. This violated the terms of Barclays’s contract with Del Monte and allowed KKR and Vestar to buy the company far less expensively.
Barclays’s motivation was that it wanted the private equity firms’ business in arranging the financing of the acquisition, which would bring lucrative fees to Barclays. Indeed, once the
deal was arranged, Barclays switched sides and began working with the consortium of private equity firms that eventually won the deal—KKR, Vestar, and Centerview. A Delaware judge found that
Barclays had “indisputably crossed the line” in its conduct.
¹⁵

There have long been suspicions that similar behaviour is widespread—that investment banks steer business to the private equity firms that they work with repeatedly, to the disadvantage of
real economy corporations seeking financing, mergers, acquisitions, or divestitures. There have been no criminal prosecutions for this conduct, in either the Del Monte case or any others.

NOT ALL DISHONEST
banking is American. In the domain of large-scale tax evasion, Swiss banks are far ahead, as is natural given Switzerland’s
long-standing economic dependence on bank secrecy to attract flight capital and occasionally criminal assets. Switzerland and more than a dozen other countries including
Liechtenstein, the Channel Islands, and several Caribbean nations facilitate tax evasion and asset concealment through their national banking laws. Frequently, major banks have actively assisted
wealthy individuals and corporations in using these nations for those purposes. Annual tax revenue losses, for the US alone, are estimated at $100 billion.
¹⁶

The following discussion of tax evasion concentrates on UBS, but investigations have uncovered similar behaviour at Credit Suisse, HSBC, Julius Baer, and other European banks. Very unusually,
there have been a few criminal prosecutions, although both corporate and individual defendants have been treated
very
leniently.

Bradley Birkenfeld, an American, worked for a UBS business unit that specialized in helping wealthy Americans evade taxes. For more than a decade, in a systematic effort authorized by the
highest levels of UBS, bankers created secret numbered accounts, arranged for offshore funds transfers through shell companies, and provided offshore-sourced credit cards (to pay for expensive
foreign holidays, say). UBS bankers travelling to the US carried specially encrypted laptops to hide their files; money was transferred by hand-carried paper cheques instead of wire services;
sometimes bankers smuggled diamonds or other valuables. They were instructed not to stay in the same hotel on consecutive nights, and never, ever communicate with their clients on UBS
letterhead.

Then Bradley Birkenfeld became a whistle-blower in 2007. Birkenfeld explained to US Justice Department and Internal Revenus Service officials that UBS had “$20 billion” in US tax
evasion accounts, with estimated profits of $200 million a year. The IRS later estimated that the accounts totalled $18 billion; and Birkenfeld’s profit estimate is probably low.

A series of US Senate hearings in 2008 publicized UBS’s behaviour and yielded highly embarrassing televised testimony by UBS executives, who refused to provide the names of their tax
evasion clients. Shortly after the hearings, the Justice Department indicted UBS and
a number of its executives, including Raoul Weil, CEO of UBS Global Wealth Management and
a member of the UBS Executive Board. Weil failed to surrender after his indictment and became a fugitive. Another senior executive pled guilty and received five years’ probation. In 2009 the
Justice Department and UBS reached a deferred prosecution agreement that required UBS to cooperate in identifying at least ten thousand tax evasion cases, and to pay a $780 million fine, but
allowed the bank to avoid criminal prosecution. Shortly afterwards, nearly fifteen thousand Americans responded to a reduced-penalty offer for voluntary disclosure.

Although Birkenfeld voluntarily came forward to unveil the entire UBS tax evasion apparatus, he was prosecuted and is now in prison. Thus far
he
is the only person sent to jail.

Phil Gramm, the former senator from Texas who was chairman of the Senate Banking Committee when Republicans controlled the US Senate, is now vice chairman of UBS, which he joined immediately
upon retiring from the Senate in 2002. As a senator, Gramm had strenuously opposed efforts to control money laundering and bank secrecy.

Many other investigations are continuing. The UK and Germany have filed actions against UBS. In July 2011 the US Justice Department notified Credit Suisse that it was the target of a similar
investigation, and in November 2011 Credit Suisse, under threat of prosecution, began the process of disclosing tax evasion clients to the IRS. Other European and American whistle-blowers have
already revealed large-scale tax evasion efforts assisted by Julius Baer and by Liechtensteiner Fürsten-Bank. The total value of the concealed assets already under investigation probably
exceeds $100 billion.

TAX EVASION IS
not the only motive for bank secrecy, money laundering, and asset concealment.
¹⁷
Kleptocratic political
leaders, organized criminals, drug cartels, and rogue states engaged in nuclear weapons
development or terrorism also require bank secrecy to conceal the size and sources of
their funds and to give them secret access to payments systems. Many of the world’s largest banks have been only too happy to help.

Perhaps the most extraordinary case involves Credit Suisse, Barclays, Lloyds, and seven other (as yet unidentified) international banks that laundered billions of dollars for Iran and other
nations; all of the nations in question have been placed under international sanctions for developing nuclear weapons and/or supporting terrorism. In violation of UN sanctions as well as US law,
the banks helped Iran launder transfers to the US, including payments related to Iran’s ballistic missile and nuclear programmes, and funds that apparently were channelled to terrorist groups
in the Middle East. Some banks created internal instruction manuals to help employees strip out incriminating data from wire transfers.

The most detailed public records pertain to Credit Suisse, possibly the most aggressive in marketing its programme, which started violating US sanctions on Iran in 1995. The bank produced a
special pamphlet for its illegal customers, “How to Transfer USD Payments”, and set up a special “investigations” office to manually review each illegal transaction,
promising, “
It is absolutely impossible that one of your payment instructions will be effected without having it checked in advance by our specially designated payment team at Credit
Suisse in Zurich
and all team members are most professional and aware of the special attention such payments of yours do require” [emphasis in original]. The bank also maintained a
sub-business of making transfers to “specially designated nationals”, like warlords or other large-scale criminals.
¹⁸

A series of settlements reached by the banks with the Justice Department and the Manhattan District Attorney in 2009 and 2010 yielded $1.2 billion in fines. Credit Suisse agreed to pay $536
million, Barclays $298 million, and Lloyds $350 million. For at least a decade, they had systematically engaged in criminal activity by laundering money for Libya, Iran, Sudan, Burma, and North
Korea, among others.
¹⁹
It is clear that these activities were known and approved by quite senior
executives. But since none of
the three banks contested the charges, and all disclosed their records, the cases were settled with fines and deferred prosecution agreements. No bank was required to plead guilty, and not a single
person was criminally prosecuted or even individually fined.

Let me pause to ask readers the following question. What do you think would happen to an
ordinary
citizen, personally, if,
as an individual
, not a senior bank executive, caught
laundering money for Iran’s nuclear weapons programme? Do you think that, perhaps, that person might be treated just a little bit more harshly by the US government? Well, in fact, we have
some interesting comparative data on this question. In 2011 an Iranian American, Reza Safarha, was indicted, tried, convicted, and sentenced to ten months in prison for transferring $300,000 to
Iran in violation of US sanctions. He was engaged in low-level trafficking in stolen office equipment and had no involvement with the Iranian government, much less its nuclear programmes or support
for terrorism.

Even more striking is the case of Mahmoud Reza Banki, an Iranian immigrant who earned a PhD in the US and worked for an American consulting firm. Over several years, he received a total of $3.4
million from his family in Iran. The money was legally earned, and he reported it on his tax returns; there was never any suggestion that he had committed any crime except violating the sanctions.
It is even unclear that the transfers were substantive violations, because personal transfers to family members are exempted. Nonetheless in 2010 Banki was arrested, prosecuted, convicted, and
sentenced to two and a half years in federal prison. His conviction was overturned upon appeal, and as of this writing he awaits retrial. It does not appear that he was ever offered a deferred
prosecution agreement.
²⁰