Table of Contents Cover Additional Praise for Zombie Banks Bloomberg Press Title page Copyright page Dedication Foreword Preface Cast of Characters Chapter Zombies in Our Midst The Art of Keeping Zombies Alive Kicking the Can Down the Road Zombies and Lost Decades Chapter Lessons Not Learned The U.S Thrift Crisis Japan’s Lost Decade Delaying the Fix Increases Costs Chapter Europe’s Sovereign Blues When PIGS Fly Zombies in the Pigsty Putting Lipstick on a Pig Spain’s Zombies When PIGS Stop Flying Chapter Germany’s Untouchable Zombies Landesbanks in the Land of Banks Politics and Banking Cheap Money, One Last Time Even the EU Can’t Shut Them Down Irish Connection 2.0 Other German Zombies Broken Models, Suffering PIGS Chapter Ireland’s Zombies Bring the House Down The Celtic Tiger’s Final Sprint The Guarantee from Hell You Can’t Burn the Creditors Not So Innocent EU Zombies No More? The Crippled Housing Market Will the Tiger Make It? Chapter The Reincarnation of Iceland’s Banks The Land of Fire and Ice Catches Fire The Unheeded Fire Alarm Devaluation No Panacea Good Bank–Bad Bank, Sort of The Icesave Saga Reincarnation and Recovery Chapter U.S Zombies on IV Drip Saving Citi—Again A Snake Gobbling Up Poisoned Rats “Pretend and Extend” Turn a Blind Eye to Weak Capital Bad Bank or Just an Administrative Concept? Tenuous Existence Chapter The Fight to Rein in the Banks Missed Opportunity Volcker’s Friends and Enemies Fear of Lincoln’s Amendment Helps Volcker The Republican Toughie Finding Ways to Skinny the Banks The Farm Boy versus Goliath Never-Ending Assault Chapter To Foreclose or Not to Foreclose? Protecting Home Equity Loans Banks Wave the Moral-Hazard Card Principal Reduction: The Bogeyman Servicing Costs Rise Crappy Mortgages Returned When the Levees Are Opened Chapter 10 Bigger Banks, More Derivatives, Higher Risk Banks Get Help in Their Derivatives Fight Unaligned Interests of Bondholders Too Interconnected to Fail Chapter 11 Killing Zombies and Preventing Their Return Who Bears the Cost? The Fallacy Over Capital Breaking Up the Big Boys Coming to Terms with Reality Epilogue About the Author Index Additional Praise for Zombie Banks “Yalman Onaran’s analysis is dead-on So is his imagery of the dead banks walking among us, stalking and killing the wobbly post-2008 recovery Zombie Banks clearly and scarily puts together all the pieces that explain a financial world again falling apart Onaran calls out the culpable, from Wall Street’s toady Tim Geithner to Ireland’s clueless bankers, and writes so lucidly as to render a complex mess understandable.” —John Helyar, co-author of Barbarians at the Gate “This book does an excellent job of pointing out the administrative and political pressures that are rampant I like the contrast used to make the point that Iceland avoided the major errors I’ve always recommended more capital for the banks as the best way out; so does Onaran The only way is to announce that we will not bail out any firm at any time; that will change their attitude toward more capital Higher capital requirement puts the risk decision on management and stockholders, where it belongs.” —Allan Meltzer, author, A History of the Federal Reserve, and professor, Carnegie Mellon University “Zombie Banks, like the movie Zombieland, is a fun romp—until you realize this is not fiction Onaran effectively expands Ed Kane’s thesis from the Thrift Crisis, when only a few U.S institutions were ‘too big to fail,’ and shows how the program of declaring the end of insolvency by merely refusing to recognize its existence has grown popular, worldwide Of course, Onaran can’t yet tell us the end of the story, but we can surmise that the longer the trend continues the worse the fallout will be.” —Joseph Mason, professor, Louisiana State University Since 1996, Bloomberg Press has published books for financial professionals, as well as books of general interest in investing, economics, current affairs, and policy affecting investors and business people Titles are written by well-known practitioners, BLOOMBERG NEWS ® reporters and columnists, and other leading authorities and journalists Bloomberg Press books have been translated into more than 20 languages For a list of available titles, please visit our Web site at www.wiley.com/go/bloombergpress Copyright © 2012 by Yalman Onaran All rights reserved Published by John Wiley & Sons, Inc., Hoboken, New Jersey Published simultaneously in Canada No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise, except as permitted under Section 107 or 108 of the 1976 United States Copyright Act, without either the prior written permission of the Publisher, or authorization through payment of the appropriate per-copy fee to the Copyright Clearance Center, Inc., 222 Rosewood Drive, Danvers, MA 01923, (978) 750-8400, fax (978) 646-8600, or on the Web at www.copyright.com Requests to the Publisher for permission should be addressed to the Permissions Department, John Wiley & Sons, Inc., 111 River Street, Hoboken, NJ 07030, (201) 748-6011, fax (201) 748-6008, or online at http://www.wiley.com/go/permissions Limit of Liability/Disclaimer of Warranty: While the publisher and author have used their best efforts in preparing this book, they make no representations or warranties with respect to the accuracy or completeness of the contents of this book and specifically disclaim any implied warranties of merchantability or fitness for a particular purpose No warranty may be created or extended by sales representatives or written sales materials The advice and strategies contained herein may not be suitable for your situation You should consult with a professional where appropriate Neither the publisher nor author shall be liable for any loss of profit or any other commercial damages, including but not limited to special, incidental, consequential, or other damages For general information on our other products and services or for technical support, please contact our Customer Care Department within the United States at (800) 762-2974, outside the United States at (317) 572-3993 or fax (317) 572-4002 Wiley also publishes its books in a variety of electronic formats Some content that appears in print may not be available in electronic books For more information about Wiley products, visit our web site at www.wiley.com Library of Congress Cataloging-in-Publication Data: Onaran, Yalman, 1969– Zombie banks : how broken banks and debtor nations are crippling the global economy / Yalman Onaran p cm — (Bloomberg Press) Includes index ISBN 978-1-118-09452-5 (cloth); ISBN 978-1-118-18533-9 (ebk); ISBN 978-1-118-18532-2 (ebk); ISBN 978-1-118-18531-5 (ebk) Debts, External—History—21st century Banks and banking—History—21st century Economic history—21st century I Title HG3891.5.O53 2011 332′.042—dc23 2011032158 Breaking up big banks Brown, Scott Brown, Sherrod Bruton, John Budget deficits, of PIGS (Portugal, Ireland, Greece, and Spain) Burton, Joan Cajas (savings banks) Cannon, Frederick Capital, new definitions of Capital injections to zombie banks Capital ratios Capital regulation Capital rules Carey, Sarah CDOs See Collateralized debt obligations (CDOs) CDS (credit default swap) contracts Central Bank of Ireland CFA Institute Citigroup: bad banks capital ratio credit rating uplift derivative holdings Europe, exposure to examiners executive pay job cuts mortgage-backed securities mortgage servicing pretend-and-extend policy price-to-book ratio rescue of Safe Banking Act and second liens and revolving credit size of TARP fund repayment Citi Holdings Clearinghouses for derivatives Collateralized debt obligations (CDOs): Germany Goldman Sachs sale of Iceland risk management and synthetic Collins, Susan Collins Amendment Commerzbank Companies, failing Japanese Competitors, healthy Congressional Oversight Panel Consumer Financial Protection Bureau Contagion fear Continental Illinois Bank Countrywide Financial Covered bonds (pfanbriefe) Cowen, Brian Cowen, Tyler Credit default swap (CDS) contracts Credit ratings: Bank of America Citigroup Germany Iceland Ireland Spain United States uplift Cross-border resolution regime Dawson-Kropf, Michael Debt-to-equity swaps Deflation, in Japan Delaying action DEPFA Bank Derivatives See also specific types banks’ holding of bondholders and clearinghouses for defined growth of netting agreements for banks over the counter regulation of Deutsche Bank Devaluation of krona Dodd, Christopher See also Dodd-Frank financial reform legislation Bair and bill Frank and Safe Banking Act and Volcker Rule Dodd-Frank financial reform legislation: bank size Collins amendment derivatives FDIC under Lincoln amendment Merkley-Levin amendment rule-making process Dresdner Bank Dublin, Ireland Duffie, Darrell Dukes, Alan ECB See European Central Bank (ECB) Einarsdóttir, Birna Engelhard, Joseph Epic of Gilgamesh EU See European Union (EU) Eurohypo European Central Bank (ECB): France and funding to banks Germany and Greece and Ireland and PIGS and Portugal and power of European Commission (EC): derivatives Germany and Ireland and Spain and European Union (EU): banking regulator banks, breaking up Germany and Greece and Ireland and landesbanks and PIGS and price-to-book value of banks stress tests Fannie Mae FASB (Financial Accounting Standards Board) Federal Deposit Insurance Corporation (FDIC) See also Bair, Sheila bank-holding companies bank liabilities blanket guarantee proposal powers of Volcker Rule and Wachovia and Federal Reserve: monetary-policy support quantitative easing stress tests Volcker Rule and Federal Reserve Bank of Kansas City Federal Reserve Bank of New York Financial Accounting Standards Board (FASB) Financial Services Authority (Ireland) First liens See Mortgages Fitch Ratings FitzPatrick, Sean Florida housing market Food prices, Middle East Foreclosures Foreign currency swaps France: European Central Bank and Germany and investor concern about Ireland and PIGS and Frank, Barney See also Dodd-Frank financial reform legislation Freddie Mac Fuchs, Rainer Funding cost gap GDP See Gross domestic product (GDP) Geithner, Timothy: Bair and banking background of bank liabilities blanket guarantee proposal Basel Committee on Banking Supervision capital regulation Citigroup and derivatives exit of, possible on Japan mortgages political clout of stress tests Volcker and Germany See also Landesbanks banking system cooperative banks credit ratings for banks economy European Central Bank and European Commission and European Union and France and Ireland and PIGS and politics and banking private banks public banks Glass-Steagall Act Glitnir Global crisis, similarities to Japan’s Lost Decade Goldman Sachs: collateralized debt obligations derivatives Greece and on largest banks lobbyists Paulson and Safe Banking Act and survival of Goodman, Laurie Government debt: Iceland Ireland PIGS (Portugal, Ireland, Greece, and Spain) Greece See also PIGS (Portugal, Ireland, Greece, and Spain) Greenspan, Alan Gresham’s law Gross domestic product (GDP): Iceland Ireland Guarantee of bank debt: Ireland United States Guglielmi, Antonio Gurdgiev, Constantin Hagen, Jan U Hallitzky, Eike Helaba Landesbank Hessen-Thüringen Hellwig, Martin Herz, Robert H Higgins, Joe Hoenig, Thomas M Home equity loans Housing market: Florida Ireland Japan United States Hybrid securities Hypo Real Estate HypoVereinsbank Iceland: bank assets compared to GDP banks, warnings about credit rating devaluation of krona economy government debt gross domestic product Ireland compared to migration, net Netherlands and reincarnation and recovery unemployment United Kingdom and Icesave Identifying zombie banks IMF See International Monetary Fund (IMF) Interest rates: central banks’ policy regarding global economy and Japan United States International Monetary Fund (IMF): banks, increase in size and complexity foreclosures vs principal reduction Greece, loans to Ireland and “too-important-to-fail” label International resolution regime International Swaps and Derivatives Association Ireland See also PIGS (Portugal, Ireland, Greece, and Spain) austerity measures bank debt, guarantee of capital injections by government credit rating debt-to-equity swaps economy European Central Bank and European Commission and European Union and Financial Services Authority France and Germany and government debt gross domestic product household consumption housing market Iceland compared to IMF and landesbanks and migration, net mortgages, residential National Asset Management Agency stress tests unemployment Islandsbanki Japan: banking crisis companies, failing deflation housing market interest rates Lost Decade price-to-book value of banks unemployment JPMorgan Chase: acquisitions capital ratio derivatives mortgage servicing Safe Banking Act and second liens and revolving credit size of Kampeter, Steffen Kane, Edward J.: on Bair derivatives Dodd-Frank financial reform legislation Japanese banks and US thrift crisis kicking the can down the road PIGS zombie banks Kashyap, Anil Kaufman, Ted: bank size mortgage servicing Safe Banking Act Kaupthing Kelly, Morgan Kenny, Enda Kicking the can down the road Kirch, Leo Kotok, David Krona, devaluation of Lachman, Desmond Landesbank Baden-Württemberg Landesbanks See also Germany about assets, off-balance-sheet borrowing and investment practices credit ratings criticisms of European Union and history of Ireland and politics and Landsbanki Islands Lehman Brothers: Barclays and capital derivatives failure of Hypo Real Estate and size of Lenihan, Brian Leverage ratio Levin, Carl Lewis, Kenneth D Lincoln, Blanche Lincoln amendment Liquidity risk Lost Decade, Japan’s Lyons, RonÁn Mallaby, Sebastian MBS (mortgage-backed securities) McKillen, Patrick Merkel, Angela: France and German banks PIGS and Merkley, Jeff Merkley-Levin amendment Merrill Lynch Middle East Migration, net: Iceland Ireland Miller, Paul Modification of mortgages Moody’s Investors Service: Bank of America Citigroup credit rating uplift Germany Ireland Spain Moral hazard Mortgage-backed securities (MBS) Mortgages: foreclosures Ireland modification of principal reduction securitization of servicing of National Asset Management Agency (Ireland) NBI Netherlands Netting agreements Nolle, Karl Nowakowski, David Obama, Barack: Bair and election of Volcker and Volcker Rule Oddsson, David Office of the Comptroller of the Currency (OCC) Ĩlafsson, Hưskuldur O’Rourke, Kevin Over the counter (OTC) derivatives Paulson, Henry: Bair and banking background of bank liabilities blanket guarantee proposal Bank of America and government authority political clout of TARP Penn Square Bank Petzel, Todd Pfanbriefe (covered bonds) PIGS (Portugal, Ireland, Greece, and Spain): austerity measures bank exposure to budget deficits debt European Central Bank and European Union and Germany and regulatory leniency toward United States and Pirrong, Craig Portugal See also PIGS (Portugal, Ireland, Greece, and Spain) Pretend-and-extend policy Price-to-book value Principal reduction, for mortgages Prins, Nomi Quantitative easing Ratios: capital leverage Regulation of derivatives Regulatory forbearance Reinhart, Carmen M Resolution authority Resolution regime, international Resolution Trust Corporation Rickards, James G Risk management Rogoff, Kenneth S Rubin, Robert SachsenLB Safe Banking Act Sarkozy, Nicolas Savings and loans crisis Savings banks (cajas) Schacht, Kurt N Schmidt, Roman Schuler, Carola Second liens Securitization of mortgages Seitz, Kurt Shiller, Robert Silent participations Silvers, Damon A Skulason, Magnus Arni Spain See also PIGS (Portugal, Ireland, Greece, and Spain) Standard & Poor’s State Street Bank Stiglitz, Joseph: bad banks on Bair banks and politicians bubbles Citigroup derivatives FDIC Iceland National Asset Management Agency (Ireland) quantitative easing Stoiber, Edmund Stress tests: European Union Ireland Spain United States Summers, Lawrence Sweden Switzerland Synthetic assets TARP (Troubled Asset Relief Program) Tarullo, Daniel K TBTF (too-big-to-fail) financial institutions Tchenguiz, Robert This Time Is Different (Reinhart and Rogoff) Thrift crisis Tomasson, Arni Too-big-to-fail (TBTF) financial institutions Troubled Asset Relief Program (TARP) Unemployment: Iceland Ireland Japan United Kingdom: banks, breaking up banks’ exposure to PIGS Iceland and United States: capital injections Consumer Financial Protection Bureau credit rating housing market interest rates nationalization proposal for largest troubled banks Office of the Comptroller of the Currency PIGS and price-to-book value of banks stress tests thrift crisis Uplift, credit rating Van der Knaap, Adriaan Volcker, Paul A.: derivatives FDIC committee appointment friends and enemies of future, concerns for Volcker Rule Volcker Rule Wachovia Walsh, John G Warren, Elizabeth Weber, Axel Weidner, Matthew Wells Fargo: acquisitions capital ratio mortgage servicing Safe Banking Act and second liens and revolving credit Wachovia, acquisition of WestLB Whalen, R Christopher Whelan, Karl Williams, Julie L Wolfe, Christopher Zapatero, José Luis Rodríguez Zeitler, Franz-Cristoph Zombie banks, as term Zombies, in Epic of Gilgamesh ... Congress Cataloging-in-Publication Data: Onaran, Yalman, 1969– Zombie banks : how broken banks and debtor nations are crippling the global economy / Yalman Onaran p cm — (Bloomberg Press) Includes... see the similarities with the other countries and how they all relate to one another While there’s a historical element throughout the book in explaining how we got into the situation we are. .. the previous government’s lenience toward the banks as they grew and the handling of their troubles when they fell Brian Cowe n Ireland’s prime minister 2008–2011—His rescue of the nation’s banks