Citi’s torch has passed – now find a knife
THE defenestration of Vikram S. Pandit from the corner office at Citigroup might just be a turning point for shareholders of this great big beleaguered bank. What remains to be seen, however, is whether the change will also protect American taxpayers from future bailouts.
There are many positives in Pandit’s exit, beginning with the indication that Citi’s directors have finally woken up. No more snoring in this sumptuous boardroom, perhaps.
By appointing Michael L. Corbat to take over as chief executive, the board seems to have recognised that this bank should be overseen by, yes, a banker. Not a lawyer (Charles O. Prince III) and not a hedge fund manager (Pandit).
Given Citi’s close ties to Washington, we can only hope that the change of command also reflects a regulatory prodding to overhaul the company. And if that involves cutting this behemoth down to a manageable size, then taxpayers should definitely cheer.
“I ask myself, ‘Could I manage one of these places with lots of capable senior officers?’ and I think the answer is no,” said Gary H. Stern, former president of the Federal Reserve Bank of Minneapolis and coauthor, with Ron J. Feldman, of the prescient 2003 book “Too Big to Fail: The Hazards of Bank Bailouts.”
“If I were a senior officer or director, that issue would be on my mind,” he added. “Do we really need to be in all the business lines we are in? Do we need to be in all these geographic locations? Are we getting reasonable return on capital, given the risks?”
Tough road ahead
Obviously, Corbat has a tough road ahead. But he also has a big opportunity to reject once and for all the legacy of Sanford I. Weill, Citi’s creator, and Robert E. Rubin, its political protector. Yes, Corbat must put this institution on a stronger financial footing, but it would be even better if he downsized it so it is no longer too big to succeed.
Citigroup, remember, is the quintessential institution that Washington determined could never fail. Under the lax oversight of the Federal Reserve Bank of New York and the bank-friendly Office of the Comptroller of the Currency, Citi grew to a size in the early 2000s that imperiled taxpayers more than any other bank.
Back in 2006, for example, just as Citi was piling into toxic mortgage securities, the bank was freed by the New York Fed from a year-long ban on big mergers. The Fed lifted the ban, it said, because Citi had significantly improved its compliance and risk management.
About two years later, Citi began tapping taxpayers.
Even as the mortgage mess worsened, threatening Citi, the bank played a large role with regulators scrambling to stop the runaway train. In the fall of 2007, for example, when the asset-backed commercial paper market began to freeze, regulators latched onto a rescue plan cooked up by a Citi executive.
It was called the Super SIV, for structured investment vehicle (SIV), and it was intended to restart that market with a fund set up by a consortium of banks. Citigroup, having sponsored one of the largest SIVs out there, would have been a big beneficiary of the plan, but it failed to get traction.
And in the heat of the crisis, Citi appears to have been unable to make a full accounting of its assets or operations. In her recent account of the crisis, “Bull by the Horns,” Sheila C. Bair, the former chairwoman of the Federal Deposit Insurance Corp, wrote that it took Citi almost one year to itemise the troubled assets that it wanted the government to guarantee as part of its various bailouts.
Of course, it won’t be easy for Citi’s new management – or that of any large financial institution – to break its addiction to taxpayer assistance. As Edward J. Kane, a professor of finance at Boston College, has noted repeatedly, the perquisites associated with that help are simply too alluring.
“These managers are currently exploiting taxpayers as a means to an end,” Kane said in an interview. “They feel entitled to do this and they don’t see any ethical issues in it. The taxpayer is the sucker in a poker game, and they see no reason to teach them anything about playing cards.”
Equitable interest
As an alternative, Kane suggests forcing large and implicitly guaranteed institutions like Citigroup to give taxpayers an equitable interest in them. This would be in the form of either a dividend or an insurance premium paid by the institution and based on the losses that could arise if it required a bailout.
Calculating these potential losses, Kane said, would be the job of bank examiners teaming up with the Office of Financial Research, a unit of the Treasury Department created by the Dodd-Frank legislation to assess threats to financial stability.
“Equitable interest means if you suffer harm you should be compensated for it,” Kane said. “It would make clear that these institutions owe duties of competence, loyalty and care to taxpayers.”
That is certainly not the mindset that managers of these companies have today.
“Very large institutions do have advantages in the marketplace when they are not allowed to fail,” Stern said. “This perception leads to excessive risk-taking, not because management says ‘let’s take more risk,’ but the way things are priced in the marketplace encourages more risktaking.”
Back in January 2011, the office of the special inspector general for the Troubled Asset Relief Programme published a voluminous report on the extraordinary aid provided to Citigroup during the crisis.
It made this salient conclusion: “Unless and until an institution such as Citigroup is either broken up, so that it is no longer a threat to the financial system, or a structure is put in place to assure that it will be left to suffer the full consequences of its own folly, the prospect of more bailouts will potentially fuel more bad behavior with potentially disastrous results.”
Truer words were never spoken. — IHT