The Tax-Payers’ Tab: a Cool $9 Trillion and Then Some

On December 1, the Fed was forced to release details of 21,000 funding transactions it made during the financial crisis, naming names and dollar amounts. Disclosure was due to a provision sparked by Senator Bernie Sanders of Vermont. The voluminous data dump from the notoriously secret Fed shows just how deeply the Federal Reserve stepped into the shoes of Wall Street and, as the crisis grew and the normal channels of lending froze, the Fed effectively replaced Wall Street and money centers banks in terms of financing.

The Fed has thus far reported, without even disclosing specifics of its lending from its discount window, which it continues to draw a dark curtain around, that it supplied, in total, more than $9 trillion to Wall Street firms, commercial banks, foreign banks, corporations and some highly questionable off balance sheet entities. (Much smaller amounts were outstanding at any one time.)

A careful review of these data makes it highly likely the GAO will be releasing some startling findings come next July 2011. That’s when  the American people will have a much clearer picture of how the Federal Reserve shoveled taxpayer money to Wall Street by the trillions.  As a result of Senator Sanders’ legislative efforts, the Government Accountability Office (GAO) is to complete an audit by next summer of the Fed’s lending programs during the financial crisis.

The data starkly show a comatose Wall Street being resuscitated with whatever financial might the Federal Reserve could pump into its tangled web of funding vehicles.  It also points to how the Fed was dispersing sums which dwarfed the U.S. Treasury’s $700 billion TARP (Troubled Asset Relief Program) bailout program while allowing the TARP to take the media heat for obscene funding of Wall Street.

The Fed has made the task of seeing the big picture of what it was up to exceptionally difficult by segregating its multi-prong funding into a dizzying array of spread sheets. Nonetheless, a few things jump off the pages. On the spread sheet for the Primary Dealer Credit Facility (a program to provide overnight loans to key brokerage firms, known as primary dealers because they assist the Fed in open market operations) are astronomical sums that Citigroup, Morgan Stanley and Merrill Lynch were drawing from the Fed on a regular basis from the Spring of 2008 to the Spring of 2009 (and potentially well beyond).  The three firms borrowed almost equal sums which cumulatively totaled over $6 trillion, and that does not include their borrowing from other Fed facilities. In its current release the Fed cut off these data as of May 12, 2009 while the program lasted until February 1, 2010, making the full extent of this funding unknown at present.  Calls to the Fed on this point had not been answered at CounterPunch’s press time.

Citigroup owns one of the largest commercial banks in the country, Citibank.  One could reason that the bank’s solvency had come under serious question at that time and it needed massive liquidity to meet depositor withdrawals from its bank as well as to fund its $2 trillion balance sheet (with another $1 trillion in off-balance-sheet vehicles).  Why Morgan Stanley and Merrill Lynch, which are large investment banks and retail brokerage firms, needed funds of this magnitude raises many questions.

Runs on banks, which invest depositor funds in illiquid assets like real estate and corporate loans, are typically met with a government liquidity response.  Brokerage firms, on the other hand, hold stocks and bonds which can typically be sold in seconds with the proceeds “settling” (available to pay out) 3 business days later.

Liquidity problems were likely aggravated at Morgan Stanley and Merrill Lynch because they each cater to both institutional clients and retail mom and pop investors.  While the mom and pop accounts should have had little trouble cashing out of most stocks, municipal bonds and well known corporate bonds, less liquid securities in institutional accounts may have found their markets frozen for trading and needed interim financing  — this may have included problematic commercial paper positions in some money market funds used by the big brokerage firms for both retail and institutional clients.

This mystery is further intensified by one Fed spread sheet showing that the largest Wall Street firms deposited a total of $2.1 trillion in stocks as collateral in order to obtain liquid funds from the Fed. Depositing stocks as collateral began on the day Lehman died and was done in large size by Lehman Brothers, Morgan Stanley, Merrill Lynch, and Citigroup.  Raising additional red flags, tens of billions of dollars in stocks were posted as collateral by the London operations of Morgan, Merrill and Citi.

Was this publicly traded stock from the firms’ proprietary trading desks, otherwise known as the in-house casino?  Was it illiquid private equity in which the firms had their money tied up?  Was it equity tranches from the dubious Collateralized Debt Obligations (CDOs)? If it was either of the latter, how could it have been properly priced as collateral?  The Fed describes the equity as follows: “Securities representing ownership interest in a private corporation?.”  Without knowing the details of these securities, or the other unspecified junk bonds used as collateral, we don’t know the extent of the trash the Fed was swapping for cash with Wall Street.

Merrill Lynch was rescued in a buyout by Bank of America on September 15, 2008, the same day that Lehman Brothers filed bankruptcy.

The Fed risking $9 trillion of taxpayer money to bail out positions of dubious worth is highlighted further in the spread sheet for the Commercial Paper Funding Facility, which loaned $38 billion more than TARP, or a total of $738 billion to fund not just U.S. corporations but foreign banks as well, potentially because they were ensnarled in Wall Street’s off-balance-sheet funding schemes.  Most alarming, a significant portion of this went to conduits that hide liabilities of Wall Street firms off their balance sheets, leaving Wall Street short of capital for emergencies just like this one, and shareholders in the dark about the true risk of the company’s balance sheet.

The Commercial Paper Funding Facility was announced by the Fed on October 7, 2008, 3 weeks after Lehman Brothers filed for bankruptcy.  Its first funding day was October 27, 2008 and its last funding day was January 25, 2010.  One of the borrowers on both its first day and last day of funding and many days in between was an entity called Hudson Castle, whose cumulative borrowings were over $50 billion from the Fed for commercial paper it sponsored for three off-balance-sheet conduits: Belmont Funding LLC, Ebbets Funding LLC, and Elysian Funding LLC.

On April 12 of this year, Louise Story and Eric Dash, writing for the New York Times, reported that while Hudson Castle was set up to appear to be an independent business, its board was controlled by Lehman; Lehman owned a quarter of the firm; and it was staffed with former Lehman employees. The reporters had gotten their hands on an internal 2001 Lehman memo indicating that the arrangement would maximize Lehman’s control over Hudson Castle “without jeopardizing the off-balance-sheet accounting treatment.”  The memo noted further that Lehman would serve “as the internal and external ‘gatekeeper’ for all business activities conducted by the firm.” The internal document was authored by Kyle Miller, who worked at Lehman at the time but went over to Hudson Castle to become its president.  According to the article, until 2004, Lehman had an exclusivity agreement with Hudson Castle, but the deal ended in 2004, with Lehman reducing its board seats from five to one.

Lehman was far from alone in having employees leave to set up conduits which conveniently benefited their former Wall Street employer by moving debt off the balance sheet.  It was the norm, not the exception.
A July 2010 staff report from the Federal Reserve Bank of New York, titled “Shadow Banking,” noted the following about the shadow system in which conduits played a significant role:

“The liquidity facilities of the Federal Reserve and other government agencies’ guarantee schemes were a direct response to the liquidity and capital shortfalls of shadow banks and, effectively, provided either a backstop to credit intermediation by the shadow banking system or to traditional banks for the exposure to shadow banks?.

“?this [shadow banking] system of public and private market participants has evolved and grown to a gross size of nearly $20 trillion in March 2008, which was significantly larger than the liabilities of the traditional banking system. However, market participants as well as regulators failed to synthesize the rich detail of otherwise publicly available information on either the scale of the shadow banking system or its interconnectedness with the traditional banking system?At a size of roughly $16 trillion in the first quarter of 2010, the shadow banking system remains an important, albeit shrinking source of credit for the real economy?”

In other words, the leverage in the system was not coming just from mortgage securitizations and esoteric derivatives but from off-balance-sheet debt parking schemes quite similar to that used by Enron.

On May 6 of this year, Viral Acharya, a Professor of Finance at NYU’s Stern School of Business, gave enlightening testimony on conduits to the House Committee on Financial Services’ Subcommittee on Oversight and Investigations.  Professor Acharya reported as follows:

“Our analysis makes it clear that from an economic standpoint conduits are ‘unregulated’ banks that operate in the shadow banking world, but with recourse to regulated entities, mainly commercial banks, that have access to government safety net.  Our results also indicate that when these unregulated banks do not have such recourse (extendible notes and SIVs), they struggle to survive a systemic crisis?In particular, the structure of credit guarantees to asset-backed commercial paper conduits was designed by commercial banks to arbitrage regulatory capital requirements.  Such possibilities ? whereby government-insured banks effectively operate at higher leverage by putting assets off-balance sheet but granting them recourse ? deserve regulatory scrutiny, especially when they operate at a scale that conduits did.”

Because asset-backed commercial paper is short term in duration with typically long-term assets, commercial banks like Citigroup (which is one of the largest players in the conduit   field)  provide liquidity guarantees to make the commercial paper investor whole if the paper can’t be rolled over at maturity.  With Citigroup’s solvency in serious doubt at the peak of the financial crisis, its tentacles of backstopping conduits and issuing boatloads of commercial paper itself is likely to have played a pivotal role in seizing up this market.  This might explain why we see corporate names like McDonalds, Caterpillar and Harley-Davidson selling commercial paper directly to the Fed according to the spreadsheets released on December 1.

With Citigroup having such a large presence in the conduit market, it strains the imagination how Citigroup’s former top executives, CEO Chuck Prince and Executive Committee Chair,   Robert Rubin,  could have testified to the Financial Crisis Inquiry Commission on April 8 of this year that they had no idea until months into the crisis that Structured Investment Vehicles (SIVs) created by Citigroup and roosting off its balance sheet had liquidity puts that could, and did, force billions of the toxic assets back onto the bank’s balance sheet.  SIVs are first cousins to conduits but typically have more leverage.  Citigroup’s SIVs were shielding subprime debt instruments from being reflected on its balance sheet but were forced back on when they became impaired, leading to staggering losses for the bank.

It appears that what was essentially taking place in the Commercial Paper Funding Facility at the Fed was that the taxpayer stood in for the liquidity puts the Wall Street banks had no money to backstop.

Another well kept secret is that much of the commercial paper backed by dubious “assets” and housed in conduits regularly found its way into both retail and institutional money market funds.  Those funds are supposed to be the safest of the safe and available to redeem at any time without a loss (or never breaking a buck in Street parlance). The Fed’s buck shot approach to spewing money at banks, brokerages, corporations, across the pond, and into the hands of questionable entities, may have been as much to save money market funds from a panic run as to save the Wall Street banks.  Let us hope the GAO conducts a thorough investigation in this area.

Whether it was Credit Default Swaps or Collateralized Debt Obligations squared or conduits or SIVs, two words emerge from the hubris: leverage and greed.  By leveraging the balance sheet, upper management could lay claim to massive compensation and bonuses.

This picture is encapsulated by an introductory comment by Phil Angelides, Chair of the Financial Crisis Inquiry Commission, at the outset of a hearing on Citigroup on April 8, 2010:

Chairman Angelides: Really, for the benefit of people watching today, it appears as though that there are about 51 billion dollars in write-offs related to subprime lending. The institution, as I understand it, is one that went from about 670 billion dollars in assets in about 1998 to 2.2 trillion dollars on balance sheet, another 1.2 trillion dollars off-balance sheet by 2007. By 2008, the tangible common equity-to-assets ratio we estimate at 61 to 1, with off-balance-sheet 97 to 1.

It takes only reading comprehension skills and zero Wall Street experience to read the above paragraph and know that this firm would blow up.  How did Robert Rubin, former co-chair of Goldman Sachs and former U.S. Treasury Secretary, not see this at Citigroup.  Mr. Rubin received over $125 million in compensation at Citigroup.  Sandy Weill, the man who built the behemoth and its far flung network of dysfunctional parts and served as its CEO, received over $1 billion.  The taxpayer received the tab.

PAM MARTENS worked on Wall Street for 21 years; she has no security position, long or short, in any company mentioned in this article.  She writes on public interest issues from New Hampshire.  She can be reached at



Pam Martens has been a contributing writer at CounterPunch since 2006. Martens writes regularly on finance at