In a recent post about the new movie The Big Short, I argued that it’s not actually necessary to decipher the abstruse jargon of the 2008 financial crisis — i.e., credit default swaps, mezzanine tranches, synthetic collateralized debt obligations, etc. — in order to understand what happened. What the big banks did during the housing bubble of the mid-2000s was in essence straightforward counterfeiting. The difference between what they did and regular counterfeiting was simply the kind of fake paper; regular counterfeiters print fake, valueless cash, while the banks were printing fake, valueless bonds.
However, I then made a very serious mistake — I claimed there was a “small difference” between regular counterfeiters and the ones on Wall Street:
Regular counterfeiters generally want to spend all their bad paper themselves, whereas Wall Street just took a percentage for running the presses. Then they often, though not always, passed their bad paper along to others.
If in 2005 a bank packaged worthless mortgages together into a bond with a face value of, say, $100 million, it would generally collect fees of about 1.5 percent, or $1.5 million. The $100 million face value wasn’t real, but the fees definitely were.
What I didn’t understand, and commenter Larry Headlund pointed out, is that counterfeiting cash actually does work the same way. That is, counterfeiters would not print up $100 million in cash and then spend it all themselves. Instead, they sell their fake cash to others for a percentage of the face value.
Ben Tarnoff explains the process in his book Moneymakers: The Wicked Lives and Surprising Adventures of Three Notorious Counterfeiters:
Counterfeiting cash in large quantities posed a problem. Spending it was risky, particularly among people who had reason to doubt you earned it honestly.
The solution was to let others pass it for you either by selling them the counterfeits in batches or … lending the notes on consignment. At the top of the counterfeiting scheme was the engraver. … Next came the printer. … At the bottom were the passers, who exchanged the fake bills for real money, thus generating the profit that fueled the venture.
Another book, A Nation of Counterfeiters: Capitalists, Con Men, and the Making of the United States, quotes an observer about how similar counterfeiting can be to “honest” business:
One contemporary, marveling at the growing complexity of the market in counterfeits … observed that “this counterfeiting traffic … as with honest mercantile business, has all its branches, and descends from the wholesale to the retail vendors, and generally ends in the hands of the poorest and most simple individuals.”
So there you have it: I was wrong, and apologize to Wall Street for drawing too stark a distinction between them and regular counterfeiters.
(And seriously, thank you to Larry Headlund for enlightening me.)
Top photo: Executives from the financial institutions who received TARP funds, (L-R) Goldman Sachs Chairman and CEO Lloyd Blankfein, JPMorgan Chase & Co. CEO and Chairman Jamie Dimon, The Bank of New York Mellon CEO Robert P. Kelly, Bank of America CEO Ken Lewis, State Street Corporation CEO and Chairman Ronald Logue, Morgan Stanley Chairman and CEO John Mack, Citigroup CEO Vikram Pandit, Wells Fargo President and CEO John Stumpf testify before the House Financial Services Committee on Feb. 11, 2009, in Washington, D.C.