Former Citigroup CEO Chuck Prince made what could be considered the most infamous statement of this credit crisis when he said:
"as long as the music is playing, you’ve got to get up and dance. We’re still dancing."
–Citi Chief on Buyouts: ‘We’re Still Dancing’, DealBook, July 2007
This statement was correctly interpreted as a defense of a reckless disregard for risk.
Most pundits at time considered it a simple "everybody’s doing it" kind of statement that you might expect from your unrepentant teenager when he is caught doing something he knows is wrong. But, in truth, what Prince was acknowledging is that risky behaviour wins when risk is rewarded.
If the Fed drops interest rates to extremely low levels and investment banks are leveraging up 30 to one and partying like it’s the the tech bubble days of 1999 again and there is zero regulatory oversight, it’s a green light to take risk.
When commenting on this in December, I said James Galbraith, author of The Predator State:
sees the latest episode of financial crisis as a Minsky moment predicated on ‘Ponzi’-style debt pyramiding that is the end game in the cycle of stability to instability as it was post-1929.
My view is that a lack of regulatory oversight allowed the system to veer away from macro-prudential finance. This is not a case of Madoff-style fraud with everyone in finance cooking up schemes to defraud homeowners. Yes, these cases of predatory lending existed. However, I see the systemic risk as more pertinent.
Systemically-speaking, the Ponzi phase is one of risky behavior crowding out prudent behavior in a world free of regulatory controls. If risky behavior is temporarily rewarded with profit and this temporary period is long enough, then risky behavior wins and drives out good behavior.
–James Galbraith: How financial stability creates instability
Prince wasn’t saying "everybody’s doing it" at all. He was saying "you’ve created an environment that rewards risk in which I feel compelled to compete." He’s saying what I said in December about CEO motivations for lending to people at ridiculous multiples of income:
As prudence was thrown out, these constraints were relaxed. The Bradford and Bingleys of the world used lower interest rates to justify jacking these constraints up to 3.5 times or four times income. Eventually these constraints hit six times in the UK.
How do you compete against that as a bank? All of the business is going to Bradford and Bingley and you are getting stuffed. I guarantee you shareholders won’t like that. As an executive, you better find the holy grail of prudent but profitable lending or follow Bradford and Bingley on the road to easy money. Otherwise, you will be out of a job.
Eventually, even the prudent relax their standards too – that’s how risky behavior drives out good when risk is rewarded.
–On the sovereign debt crisis and the debt servicing cost mentality
So I wasn’t surprised to hear Chuck Prince saying exactly the same thing at the FCIC hearings in DC today. The Wall Street Journal reports:
Bill Thomas, a Republican former congressman from California who is vice chairman of the panel, which must produce a report on its findings by Dec. 15, compared the former CEO to "a lemming" because of his reluctance to rein in risk-taking as late as mid-2007.
The comment came after Mr. Prince tried to explain his infamous declaration in mid-2007 that "as long as the music is playing, you’ve got to get up and dance. We’re still dancing." Mr. Prince was referring to the dangers of leveraged lending for private-equity buyouts, but Mr. Thomas responded: "You weren’t going to be the lemming that stopped and said: ‘I don’t want to keep walking."’
Mr. Prince said Citigroup could have lost market share or key employees if it veered away from the sorts of bets that so many banks and securities firms were making at the time. "It would have been impossible," he said, "to say to bankers, we’re not going to participate … and expect to have any people left." Instead, Mr. Prince said he asked regulators to intervene to curb such risk taking industrywide.
Did Prince ask regulators to intervene and curb risk taking? I’d like to see the evidence of this. Irrespective, Chuck Prince has essentially confirmed that risky behavior drives out prudent when risk is rewarded. Either
- The Fed has to take the punch bowl away and reduce the rewards for risk or;
- Congress has to pass laws breaking up risky institutions into less risky pieces and outlawing as much risky behavior as possible (with regulators actually enforcing those laws) or;
- Regulators have to reach into financial institutions dictating what risks they can and cannot take.
I vote for number one first, number two second and number three never.
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Re #3 and your responce…
Leave the kids for a weekend but, don’t cry when you come back and the house and yard are trashed after the party of decades.
Skippy…some form of ethics must be applied or woe is absolute.
OK then, stop subverting the #1 rule of the universe…there is no such thing as insurance…in any guise!
Skippy…all in 100% exposure or none.
I think you need to replace the term “risky” with the term “fraudulent”. Risk taking is when you put money in a biotech company and their drug either works or doesn’t.
Yeah, I agree with this. Actual
business is just risky. We need
a willingness to take risks. If you wanted
steady, reliable earnings, the guy with
the track record for that was Madoff.
No legit’ business can compete with a
Ponzi scheme or speculative bubble.
Now, that we’re allowing banks to
‘earn their way out of insolvency,’
we’re rewarding the wrong kind of
investments again. Who we need to be
rewarded are guys who figure out what are
the best ways to make money in the real
economy. That’s now what’s happening now.
Yes, #2 (break up the big banks) and #1 (transfigure or abolish the Fed completely).
I also reject #3 because I reject all gratuitously complex “solutions” to political problems and because it could never work since the regulators would invariably be corrupted. (The latter is the reason such phony measures are ever proposed in the first place. “Regulation” can never work as long as the rackets exist at all. The very notion of regulating today’s rackets is a scam on its face.)
Risk is a part of every day life. Do you drive? Are you a pedestrian? Do we sign into the deal? etc.
THE most important element is the RELATIONSHIP of ‘risk taking’ to the other processes or procedures. We may drive to go somewhere and we abide by the rules that make it safer to do so. If Management FAIL to ensure equilibrium within the business process, fail to properly assess or balance any ‘risky’ process, that ‘imbalance’ causes the problems, not only one or the other polarity of the relationship.
This crisis is ALL about a failure of leadership to effectively manage, or, maintain equilibrium between processes within the business, the market, the economy and globally. It’s not really self-interest that’s the problem, more the inversion of self-interest, an ‘immaturity’, of leadership. The inability to assess the big picture and ensure the equilibrium of the continuing processes, is actually against their own self-interest and that of everyone else ultimately. As we now experience.
To ensure continuing profit is in their self-interest, the immaturity destroyed that possibility.
As an interesting exercise, list for yourselves, the qualities required for good leadership.
Want to regulate properly?
Pass a law that criminalises the manipulation and misrepresentation of accounting or regulatory reporting data and hold the entire chain of management to account. Most importantly, apply this law. Businesses that construct a scenario to meet the requirements for a regulatory report and then undo that immediately after submission of the report, should be declared as falsifiying information and made legally accountable. Think, in your own experiences, how often does this go on?
People should blow the whistle more! Create institutions to go to and establish rewards for doing so properly. Make it easier to do so. If a business misrepresents information about their business process, the executives AND chain of mangement should be held to be accountable, in law. Create and introduce mechanisms to put the pressure on them to do so.
Also, for the ‘anti-regulation’ school, one wonders what their opinion is of ‘lawlessness’?
Self-regulation without feedback loops and institutions for ensuring proper reporting and whistleblowing, will always lead us to where we are now. The accountability mechanism is not working.
all imho
(caps for emphasis)
At some point, risk taking becomes fraudulent. This has been William Black’s point regarding control fraud in financial services.
Why Sarbox has not been invoked in any of these cases is beyond me. Yves has mentioned in the past that Lehman looks to be a clear Sarbox violation. Is this being pursued or not?
In my view, the fact that we don’t see Obama Administration officials at least trumpeting their investigation of Lehman or Citi for control fraud or Sarbox violations is an a priori acknowledgment that they do not see investigation of financial services executives as a positive thing. They are completely captured and will only act when forced by public outrage to do so.
It hasn’t been applied because the administration is just as crooked as the bankers…. An administration that protects criminals is just as criminal.
“will only act when forced by public outrage to do so”
Unfortunately the MSM are bending over backwards not to create outrage. They’re all “serious centrists” who don’t want to fan the flames of “populist” anger. Recently they were trumpeting the line that “the bailout has mostly been paid back”. Do any of these geniuses parroting this drivel even understand what, for example, Maiden Lane X is about? They need to read Naked Capitalism.
Doesn’t this define “crony capitalism?” Also, you posit that better monetary policy at the Fed would “stop the music”. Agreed. But the problem is this – the Fed is both Maestro and the choreographer – that is the Fed is a banking consortium, often acting in the interest of its member banks more than the interest of the U.S. people. So, looking to the Fed as currently organized to act to reduce the risk – and thus the profits – of its member banks is a fool’s errand.
Want the Fed to act to limit systemic risk? Force the bonuses of bank CEOs to be paid in stock warrants, redeemable ten years after issuance. Then encourage past CEOs to sit on the Fed’s Board of Directors. You had better believe they would work to protect the system then.
Worst. Excuse. Ever.
The premise that they had no choice but to dance, or
lose their ability to make a living, is completely false.
They could’ve (and some did) make a killing shorting
those who kept dancing, instead of dancing themselves.
The premise allows them to claim innocence, but the
premise is completely false.
Heck, some of them actually did both selling garbage (dancing) and shorting the idiots who bought the
garbage they sold!
So, if they didn’t have to dance, why did they?
There was a lot of OPM to skim from packaging
up garbage and selling it, along with giving them an “insider’s advantage” on who to build up shorts or get insurance
against.
They danced because they didn’t have a single
dime of their own at risk, the could loot a huge sum,
and they knew they had captured lawmaking and
regulating to the degree necessary to keep them out
of prison.
Some hedge funds managed to make very big money,
without being unethical with anyone else’s money….clearly
it could be done. These folks just didn’t care….sociopaths.
William K. Black refers to this phenomenon as a Gresham’s Dynamic – bad ethics/behavior drive good ethics/behavior from the marketplace. In others words, if your competitors cheat and get bigger profits, then you have to cheat and cut corners to stay in business just to survive. This is in line with Minsky’s ideas of capitalism’s fatal flaw. This isn’t about risk. It’s about control fraud.
1. You grow like crazy.
2. You make really bad loans by relaxing lending standards.
3. You utilize extreme leverage.
4. You have trivial loss reserves.
These four things guarantee record short term profits and massive increases in executive compensation which is the underlying incentive. The average time in office of a modern executive is 3-5 years, so their whole focus is to earn as much as possible in the shortest time possible the company be damned. Since we have not had any financial regulation for the last ten years, control fraud became epidemic due to the underlying incentives and Gresham’s Dynamic. Risky loans and risk taking are a symptom of the control fraud disease. Decreasing risk treats the symptom, not the underlying cause which is an incentive system that rewards bad behavior with no accountability or risk of punishment to the white collar criminals. It comes down to controlling executive greed.
The regulators are captured in the sense that they believe the neoclassical economic nonsense that markets are efficient and can detect and prevent fraud automatically. When you as a regulator believe nonsense like that, you don’t even need to be bribed to look the other way while the thieving and pillaging due to control fraud runs rampant.
To stop the greed, you use the existing laws on the books and threaten the ratings agencies with corporate death if they don’t make accurate assessments on their ratings. Those firms are the choke points for Wall Street and were key enablers of the last crisis. You also institute penalties for executives who cause their firms massive losses in the form of clawbacks.
I’m just echoing the previous comment, but using Bill Black’s analysis of what happened.
Good observations. Gresham’s law leads to control frauds. Without some sort of check on risky behavior either at the corporate level, the regulator level or the legal level, you end up with massive fraud. This should be clear to anyone with any common sense.
But, the fraud has been allowed to continue because the captured government officials are promoting the looting that we have witnessed for the past 15-odd years. I tend to think this will only change when the whole system collapses and voters demand change. Events after the 2008 meltdown suggest this is true. I hope I am wrong.
I worked for Chuckie for a while. Every time that quote surfaces I get nauseous as the image of pudgy, pasty-faced Chuck Prince dancing come into my mind. Chuck Prince was the patsy brought in to bury the dirt on Sandy Weil. He was in over his head from the start and did nothing to rein in the abuses.
Part of the Citi training was a regular session on money-laundering, fraud, and unacceptable behaviour. At every session the trainer trotted out a front-page picture of Chuck bowing in apology to the Japanese authorities for a serious investor mis-selling scheme run by Citi Tokyo. This was supposed to show us how serious Citi and Chuck were about bad behaviour; oh, the humiliation of the CEO of the largest bank in the world bowing to the Japanese Finance Minister. I did little good to my short career at Citi when gleefully pointed out to the crowd that Chuck still earned a $20 million bonus that year (to be honest, I told the trainer that bowing was trivial; I would suck c*&k for $20 million!).
Personally, I would like to see Chuck dancing with his cellmate in a Fed max prison.
I think this is a good example of how investment theory and reality diverge. Maybe a century ago, individual investors really were the company owners. All my stock ownership is through 401k funds – I have no way of “disinvesting” in the banks, or to send a signal that I disapprove of how the banks are run.
There is also an asymmetry here – the CEO’s loss of this year’s bonus is minor in relation to the compensation received in the run up. The firm can be utterly destroyed, but the managers remain multimillionaires.
It used to be a profit and LOSS system, but when the losses are only taken by the little people…well, what would you expect with those incentives? We can’t keep fiddling with the carrots only – the stick has to return.
I’m not sure I’m understanding the end.
First, you write that the Fed should take the punch bowl away, but that regulators should never reach into financial institutions dictating what risks they can and cannot take
is it your contention that most of this problem was mere monetary policy by the Fed and that the Fed could have taken the punch bowl away solely by monetary policy? Or do you believe that the Fed could/should take the punch bowl away as regulator and your other commentary about regulators meant the other non-Fed regulators?
IMO it is far past time regulators to tell these institutions that there are some risks they can and cannot take. specifically the so-called “naked-CDS” market. I still fail to see any economic rationale for them, and they truly are weapons of mass destruction. unless of course your hope would be that Congress itself bans them?
we would have been far better off if Brooksly Born would not have been blocked in her crusade a decade ago. but then again I guess she was just a regulator, so you disagree with her goals back then?
no, I’m sorry, the more I read your last paragraph the more I disagree with it.
All three mechanisms need to come into play. We need as much redundancy as possible here. I am definitely willing to crimp “innovation” in order to avoid the incessant bubbles that we have. One bubble blowing up is now wiping out ALL of the gains of that bubble and more, and causing irreperable misallocations of resources.
I’ll pass on Fed-as-uber-regulator thank you. The regulators all eventually get captured to some extent. The Fed isn’t even captured, it IS the problem.
the very notion of “risky behavior” is a dodge — a shallow milk toast warped and solipsistic bankster self-enriching diversion of a phrase — that masks the much larger and much more profound issue, which is the extension of capital to those who don’t have it but legitimately need it to pursue a reasonable human life (private equity leveraged looters excluded).
the problem of “risky behavior” is really a problem of the nature of capital extension to the middle-, lower-middle and lower economic strata of society, who are born into families that lack capital but who have all the usual human desires and ambitions for a relatively meaningful life.
extending such risk capital could better be done — with the goal of overall social health in mind — through equity-based community investment programs.
Let the “talent” at the big bankster firms use their cleverness to create better capital allocation mechanisms and investment structures that bring capital to those who truly need it, but in a non-leveraged and stable way.
The bonus pool alone could fund many such programs, and still leave million dollar compensation plans in place. A few million a year for a money parasite hack is enough incentive to show up for work.
More than that is looting and theft.
Let risk be better defined, and the arguments will clarify themselves.
Going after Chuck Prince is like holding the Captain of the Titanic solely responsible for that disaster. There were many contributing factors.
Part of the puzzle is that the Regulators, employees and people familiar with the “games” knew damn well what was going on, and turned a blind eye. Hell, we were ALL chasing maximum returns!
I think it was Lao Tzu that said something like “the only law that is enforcible is that which is held in the hearts and minds of the people”
It seems that the root causes lie in society’s common values. Too many of us, having grown up in an affluent society, have lost the fundamental ethics needed to maintain a sustainable social system. We expect too much, we lay responsibility on others rather than taking it up ourselves, we do not appreciate that it is up to us to create our own life, maintain our own society, and stand against the abuses. And so many are ready to help us maintain this delusion.
Hopefully this jolt will be enough, however the hesitant approach to reform seems to indicate otherwise.
I fear that the crises will keep on recurring until either Western society is completely destroyed, or we re-learn a deep sense of personal responsibility for our own and society’s well-being.
No, putting Chuck and Robert Rubin in jail for securities fraud works just fine. They were made aware by e-mails that fraud was going on (the certification that underwriting of mortgage pools was done by Citi) and they did nothing about it but collect their bonuses. Take back Rubin’s bonus and pay from the past ten years and throw him in prison. Or would you prefer to philosophize?
“putting Chuck and Robert Rubin in jail for securities fraud works just fine.” — I agree, completely.
But why AREN’T they in prison already?
And once you have come to terms with the LONG list of complicit actions or non-actions which leaves them walking the streets while we get ripped off, ask yourself what’s going to stop it next time?
The idea of Social Responsibility isn’t abstract philosophy – it is what makes society WORK, dammit!
Sorry, I am just getting fed up with “the current situation”.I worked on Wall Street, and used to half believe the bulls///t. If nothing is done to punish those who have stolen trillions, I fear violence will be seen as the only avenue available for those who will have little to lose. JPM paid Lehman to back away from the Alabama sewer deals. A clear crime. Is anyone even interested in persuing it? Like you said, Obama isn’t even making a show of seeking justice.
I would say:
4. Indirect control.
It’s the most effective way in my view but it requires intelligence to devise.
Gresham: good money driven out by bad. This is essential to understand.
Prince as absolutely correct in his statement: when the dominant game is to take huge risks, you either play or die.
No CFO could get on a conference call and try to explain their lower profits compared to their peers as a principled refusal to participate in a busines model he did not aprove of. “We’ll sit on the sidelines while everyone else gorges on profits.” Good luck with that.
This is exactly what happened to American manufacturing, to making quality products, to selling healthy food, and to any sort of business model that tried to deal ethically and transparetly with their customers. All driven to their deaths by bad money.
McMike, we obviously can’t condone Prince’s stewardship in the least. But, what he says points to regulators and the Fed as well as corporate governance as critical issues.
When I think about the once prudent Wells Fargo or the breakdown at Washington Mutual, Gresham’s Law comes to mind. Wells consistently tried to take prudent risks and avoid growth through acquisition in the past. At some point I imagine they became concerned that they would become a takeover target. More swashbuckling (and reckless) competitors like NationsBank were looking for prey. How can a public company fend off a hostile bid when the bidder’s shares are goosed by fictitious profits from risky behavior? It can’t.
So, Wells eventually became a riskier enterprise itself, especially given its exposure to the California housing market. What could and SHOULD the Wells people have done? It’s hard to say. I don’t see them as the riskiest of the lot from a corporate governance perspective, but by dint of their exposure to California, they have a lot of NPLs on the books (especially in HELOCs). And California is non-recourse to boot. I don’t know what the answer is there. Citi was just foolish, unwieldly and reckless.
What I do know is that this mess is the logical outcome of a culture of easy money and anti-regulation.
Citi is an ongoing criminal enterprise. Do you consider crack dealers “foolish and reckless”, or is that just for white men with nice suits on?
http://www.nakedcapitalism.com/2010/04/citigroups-chuck-prince-confirms-that-risky-behavior-drives-out-prudent-when-risk-is-rewarded.html#comment-102593
I think I have said my piece or were you not reading?
Not reading :)
Or….too angry to see straight. I guess I won’t take any less then a call for revolution today. By Monday, criminal prosecutions will do for me. I do appreciate your work.
Lee
Edward Harrison: “we obviously can’t condone Prince’s stewardship in the least. But, what he says points to regulators and the Fed as well as corporate governance as critical issues.”
The former chairman and CEO of one of the world’s largest banks essentially said that rational markets, self-regulating markets and the efficient market fantasy are a crock. That’s a valuable statement. The fact that the man who said it is otherwise despicable doesn’t detract from the value of that statement.
I have no sympathy for Prince. But I view his “dance” statement was a rare moment of honesty from one of the dancers.
I am sure various players at the dance had various levels of enthusiasm for it. And that some probably wanted to get off at some point, but found themselves checked in to the Hotel Califoria for the duration. Deal with the devil and all that.
Yes, the failure was not wall street per se, they behaved rationally, seeking rents and responding to rewards and removing obstacles. The failure was in government oversight that become collaboration, and in a right-leaning public that swallowed the neo-lib/neo-con mythology and allowed themselves to be fleeced despite generations of evidence warning against it.
My point was that wall street was not the beginning but the end. It begain with the pilaging of manufacturing, moved on to Enron/Worldcom, and only then made it to the mortgage markets.
Since the Bankers admit they can’t resist criminal activity, all the more reason to break them up. Keep them small and jail them when they revert to their criminal behavior. And take all their money.
> Gresham: good money driven out by bad. This is essential to understand.
KnotRP’s correllary to Gresham:
If you ACTIVELY LOBBY congress to remove all of the good laws and regulations that block and ban bad behavior from the marketplace, and then, once those rules are lifted by your OWN EXERTION, you then take advantage if the free-for-all, you CANNOT claim you had no choice. THOSE WHO MAKE THE RULES CANNOT CLAIM THEY ARE NOT RESPONSIBLE.
The attempt to whitewash all of this is astonishing.
The key absurdity of the Rubin/Prince position is that banks have a binary choice between taking so much risk that they require massive government aid to prevent bankruptcy when forseeable events occur, and sitting out of markets altogether leading to the shutdown of the company. There are intermediate levels of risk that prudent financial companies take – see Berkshire or Chubb in insurance/investments, Goldman in i-banking (withholding judgment on any vampire squid issues – they obviously know how to manage risk better than Lehman or Bear did), or JP Morgan and Wells (with some recent exceptions) in commercial banking. You don’t have to lose 95% of your shareholders value and pull huge amounts from taxpayers just to play the risk-taking game for one or two years of illusory profits.
While I agree about the absurdity of a binary position, some of the examples you cite are models of prudence only by comparison.
“Goldman in i-banking (withholding judgment on any vampire squid issues – they obviously know how to manage risk better than Lehman or Bear did)”
Sure, you buy the US government – a very wise investment by G-S. Risk? Dump it on a party like AIG FP and then get the Fed to clean up the mess and pay you at an absurd 100 cents/dollar. If the Fed will cover any bad bets you make, how can you fail to make money?
Bonus points for getting magically reclassified as a financial holding company so you can borrow from the Fed at near zero rates.
“Prince said he asked regulators to intervene”. Edward, can you pursue this? Who and when? Let him produce the e-mail or charge him with perjury.
The odds of Chuck prince asking regulators, who he has paid off not to regulate, to regulate, are about as good as him getting his old job back.
Sure Chuck Price knows exactly what he meant in the ‘dance’ statement. Now we know too. Translation: when you’re in a casino where everybody is playing fixed gambling games, you just gotta keep playing no matter what. Who dares to stop, take the money and run? The one who did so will be nailed by the rest.
But who setup the fixed gambling in the first place? Not Chuck – he just played it.
Three groups did – ex Fed chair Greenspan, leadership of Congress in financial matters, GW Bush and his Treasury secretary. They setup the whole show. So much so that when the show began to show signs of cracking, they ignored them because they cannot believe their own show can possibly has flaws. These people, not as much the big fat greedy banks, are the real systemic flaw.
So there you have it. The painful consequences well-deserved.
Chuck and his ilk LOBBIED congress to dismantle protections.
When you play a part in stripping rules from the marketplace,
you don’t get to claim you are a victim of the lack of rules.
I thought Chuck Prince was brought into Citicorp (group) to inject business ethics; to clean up the mess Sandy Weill created. Apparently, amidst the corporate culture at Citi(whatever), an ‘ethical’ profit is neither attainable, nor acceptable.