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AlterNet | January 14, 2010

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Other People's Money
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January 28, 2010

New Demos Report Finds High-Risk Trading Profits Soared in '09 At Affected "Too Big to Fail" Firms

President Urges Congress to Act

Washington, DC--Last night, President Obama called for directing $30 billion in TARP funds to community banks for small business lending, in recognition that the largest banks have used taxpayer funds for increased trading activity while lending remains low. He also reiterated his determination to limit the size and risk-taking of big banks. In response, the public policy center Demos issued the following statement from Washington DC office Director Heather McGhee, as well as new data examining 2009 earnings reported by the biggest banks and how that revenue is connected to trading activity:

"Ten years ago, the financial lobby convinced our leaders that the country's most important banks should be allowed to operate like hedge funds. That deregulatory gamble cost us trillions in household wealth and millions of jobs. President Obama's proposals greatly improve the reform package needed to prevent another crisis.

"A proprietary trading ban is an important start, since all trading by commercial banks poses unnecessary risks to our financial system. A new report we published this week analyzes the extent of recent trading profits--which the Administration's proposal would limit--at the largest financial firms. Our report shows how, post-meltdown, the largest banks' profits are recovering because of trading, not traditional activities such as lending, and calls for even greater reforms to reduce systemic risk in the industry."

In Bigger Banks, Riskier Banks: The Post-Bailout Continuation of a Pre-Bailout Trend co-authors Nomi Prins and James Lardner look at the recent activities of the top four commercial banks--Bank of America, JPMorgan Chase, Citigroup, and Wells Fargo--as well as the two investment banks that stand to lose their access to the Federal Reserve discount window under Obama's proposal, Goldman Sachs and Morgan Stanley.

All of these institutions (among the biggest recipients of federal bailout and subsidization money) did better in 2009 than they had in 2008. But, as the Demos report notes, it is higher trading revenues through riskier investing and speculation, not ordinary banking activity such as lending, that account for the improvement in one case after another.

At the end of last week, JPMorgan Chase announced 2009 net profits of $11.7 billion, more than twice the 2008 figure of $5.6 billion. At the same time, trading activity surged, accounting for 15.9 percent of the company's total revenues, which is an even higher proportion than in 2006 or 2007. In 2008, Chase's trading division racked up a loss of $7 billion.

Citigroup's results, posted Monday, were more troubling: a fourth-quarter net loss of $7.6 billion, due mostly to increased losses in Citi's loan portfolios (net credit losses were $7.13 billion) and more than $6 billion in TARP payback-related expenses. At the same time, Citi's trading and investment-banking revenue jumped 5.9% to $5.4 billion from a year ago, demonstrating a heavy reliance on the company's riskier operations.

Looking at the banks, the Demos report finds the same pattern of apparent recovery based on high levels of trading with borrowed money, including low-cost government-subsidized capital. Perhaps the biggest difference between now and the pre-bailout period is that "is that more of the capital for today's high levels of trading and securities packaging comes from the taxpayers in the first place," the authors write.

In view of the way these banks have chosen to use their capital, they add, "it should come as no surprise that despite low interest rates and surging bank profits, many deserving businesses cannot get credit, while foreclosures continue to increase as homeowners struggle to refinance unaffordable mortgages."

The report links the bank's increased reliance on trading to increased systemic risk. At JPMorgan Chase, a widely used risk metric, ‘value-at-risk' or VaR, stood at a record high of $248 million (as a daily average) for 2009; that's a 23 percent increase over 2008.

Bigger Banks, Riskier Banks looks at the question of bank size as well as risk. "Little more than a year after a disaster that was largely of their making," the authors write, "the country's biggest banks have grown even bigger, in no small part because of government subsidies and interventions."

While the President's new proposals are an improvement on earlier proposals, Demos will work in Washington to advance an even stronger reform package. The authors note: "'Too Big to Fail' should mean too big to exist... Just as crucially... the principle of Glass-Steagall should be reestablished: the financial world should once again be divided into commercial entities, which can count on government support, and investment and trading entities, which cannot."

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