Park foundation, dedicated to heightening Public Awareness of critical issues. The colbert foundation. Barbara g. Fleischman. And by our sole corporate sponsor, mutual of america, designing customized individual and Group Retirement products. Thats why were your retirement company. Welcome. Its been six years this summer, believe it or not, but ill bet you remember how disastrous the financial meltdown was in 2008, how scared we were and angry at the banking industrys blatant negligence, arrogance and greed. And remember all the guilty ceos who went to jail for their own doing . Yeah, neither do i. But maybe you do remember our broadcast last week on which the nobel prizewinning economist joseph dignit compared how the government responded during the financial crash to the police molly coddling a drunk driver. What we did was analogous to we take the perpetrator, the guy who was the drunk driver, to the hospital, but we leave the guy thats been hit on the street. And then we say, oh, by the way, you dont have to pay for any damage that youve done. So, even after they pay back the government, the real question is, whos responsible for all the damage thats been done to our economy . The people that lost their jobs, that lost their home. The banks havent paid back a cent of that liability, and thats a real corporate responsibility. My guest this week is just as outraged as joe stiglits and just as good an advocate for reform, banking reform. Anat admati teaches finance and economics at Stanford Universitys graduate school of business and has been at the forefront of the debate on how best to regulate our banks to make them more responsible to the public interest. Time magazine named her one of the most influential people for 2014, in part because of this book, the bankers new clothes, coauthored with Martin Helwig. Reviews have described it as powerful, crucial, a call to arms and the most important book to emerge from the crisis. Anat admati, welcome. Thank you. Can what happened six years ago happen again . Yes, because the banks continue, the Financial System continues to be fragile and the banks continue to live dangerously. And when youre speeding at 100 miles an hour, you might explode and harm other people. And thats what theyre doing, 100 miles an hour . Despite the fact that we thought after the crash that we had learned some lessons, we were going to have a discussion and institute some reforms that would prevent it from happening again . We have a tweak is what we have. We have some tweaks. We have messy, unfocused efforts, but we havent really gotten to the heart of the matter and really managed to control this system effectively. But as you surely know, the bankers tell us, not only do we have a safer system, but its getting even better as reforms are put into place, but you look skeptical. Well, they are truly trying to confuse people with their narrative. They just either are speaking a language nobody can understand or they say things sometimes that are completely wrong and sometimes they are just misleading. But if you step back and look at the system, its very fragile. Its one of those systems thats like a big house of cards. You touch it, stuff can happen fast, and its far, far from any system that we would think of as reasonably stable, able to support the economy, all of that. You make that point, that the average u. S. Corporation relies on 70 equity earnings. A company like google, however, maintains 94 equity and borrows little. Banks, on the other hand, live on borrowed money and maintain very little equity, 5 . So, when banks are overleveraged and interconnected and loans go bad, everything can topple, and theres poor uncle sam trying to keep the whole system from collapsing. Are they still taking these risks . Oh, enormous. By any measure of exposures to derivatives and the amount of debt versus their own money that they have. Most of these measures, its incredibly distorted and dangerous. I learned from you that two years before the financial crisis, the average size of the top 28 banks was 1. 35 trillion. The average size last year, 1. 7 trillion. And you say these too big to fail banks are particularly reckless and dangerous. Look at them. Theyve basically become above the law. The people in them are able to do things that most other corporations would worry more about them doing because they can benefit from upsides all through the chain, and their creditors dont worry enough as much as other creditors would worry, and the downside eventually is everybody. So, by just taking the risk, they are able to pass on some of their costs to other people. Thats kind of how it works for them. Paul krugman writes that our Economic Policy has been governed by the implicit slogan, save the bankers, save the world. Thats the argument the banks have been making, meaning that if we restore confidence in the Financial System, prosperity will follow. And youre skeptical. Im very skeptical because there are very unhealthy corporations. The notion that what happens to them, all the geithner spin, we were here to save you, yes. So, people including myself dont argue with the fact that you dont want the system to implode because it would be very disruptive, the way it was in the depression. But it does not mean that you get back in the car and drive it 100 miles an hour. And right now, as we speak, the regulators are making the same mistakes that they made right before the crisis. What do you mean . Theyre allowing the banks to remain incredibly opaque and indebted and interconnected so that they can harm us again. You mentioned tim geithner a moment ago. Jon stewart interviewed the former treasury secretary last month and geithner tells stewart that the mistake that led to the economic crisis wasnt in the toxic mortgages and the subprime loans the banks were hustling. Heres what he says. There was a lot of fancy stuff that people didnt understand. Yeah, sure, at the margin made everything worse, but it wasnt snrool it. The center i would argue that drove the entire boom. They bundled this and made money, so the subprime loans, theres a rush to get in that business. You dont believe the money people made in derivatives and securities drove people to drive them in there, collateralize it and continue to swell this thing out . That was the bubble. That happened. A lot of predatory lending happened. A lot of bad stuff happens, and that was for sure making it worse, but it wasnt the core cause. The core cause was a much more simple thing. Which is . Which is a level of confidence that its safe to take on this risk and leverage because people did not assume it was possible for this country to face the risk of a great collapse and recession and panic. People didnt think the house would fall. Hes wanting to blame some confidence in all of that. In fact, a lot of risk was taken, bad decisions were made, and he allowed that. Should have watched the system, where the risks were so obvious, so obvious to so many people except for the blind regulators. And to just say, oh, just panic, just panic. Well, the panic w for a reason. He seems to be saying, well, ordinary people took part in this bubble. They had confidence that the loans they were taking out theyd be able to repay, and theyre partly to blame. Well, for every borrower, theres a lender. And in the case of the homeowners, you have to ask, why did the banks lend them so much and what money did they lend them . As it turned out, they lent on mountains of borrowed money themselves, and they themselves, as borrowers, didnt have anybody watching over them as they are watching, supposedly watching over the other borrowers. So, standing in the middle of this system, if they want to, they can be tough lenders, but as borrowers, theyre completely reckless, and nobody does anything about it. In another part of that interview, jon stewart reminded him, as you have said, that the bankers havent really been penalized for their sins. Heres the exchange. They have yet to pay any price for it. Forget about Old Testament justice. They havent paid newage justice for it yet. Im agreeing with you, its unfair. Im agreeing we didnt give the measure of justice against that. But i am completely confident yes, yes. Im completely confident that the alternative strategy that would have been more comfortable to you at the beginning, you would have cured this war, you would have loved this war, would have been devastating to the people youre most worried about. Im going to agree with both of them. Im going to agree with both of them. Thats not the right question. So, what was the alternative . Thats the problem. Thats a hostage situation. What are you going to do at the moment . The problem then is, okay, you let the trucks drive at 100 miles an hour and they imploded, and now, you know, theres collateral damage. The point is, why not a speed limit . Why are we here . Why did we let what geithner is ignoring is that he as a regulator and as a policymaker allowed this under his nose and then didnt do anything about it afterwards. Thats the bigger problem there, is thats the people i blame. I watched occupy wall street and i thought to myself, they dont know where to put their tent. Put your tent in front of the new york fed. They failed. How do you get justice when it was a mistake and not a crime . Well, theres no we cant you cant always get justice. Thats the problem. What you need to do is try to prevent the harm. Thats my focus. And you can. Whats maddening about this situation is how were accepting this, as if its some kind of Natural Disaster that happened to us and we have to live with it, and thats the image they try to portray, that the earth just opened and we had to send the ambulances. Thats the way they tell it. Thats the wrong way to view it. When, in fact, preventive medicine, if the regulators had been doing this job, would have avoided this calamity. They averted attention from their own failure before and since. Thats whats so outrageous about this, is that you can make mistakes, but you must learn, and they did not, and theyre still failing. Im persuaded by your book. You and Martin Helwig argue that banks should risk more of their own money and less of everyone elses. Why would they want to do that . They wouldnt want to. This is not going to happen voluntarily. This requires regulation. What you have is, for other industries, if you look around, without any regulation, and despite the tax code, rewards that over equity for corporation and for buying homes, too. Despite that, no corporation and no regulation gets anywhere near the kind of indebtedness that the banks do. And the banks dont have to be so indebted. Yes, some of their business is in taking deposits, which is debt, but to get to have 90 or 95 of the money youre spending be money youve made promises on, to live on, like, a tiny equity margin . No corporation lives like that without regulation. In my part of the world, silicon valley, a lot of risk is taken, more risk than making loans, risk in innovation. Risk is taken by manufacturers of all kinds of new industries. And they may have total losses with it, but they dont fund it with so much borrowed money. And so, the banks should, if they were just more like normal corporations, they might begin to even make more reasonable decisions. Right now they live entirely on the edge and are all distorted and inefficient. And somehow, for them, it still works. They live entirely on the edge, you just said. Yes. But were there with them. We are there with them. They take us all down, but they as they drive through the edge or they live on the edge, it works for them. They live on the edge. Because they know the government is their backstop. Exactly. And the taxpayer. And the creditors know. So, theyre able to get people to let them to use money, that if they were anybody else, they couldnt. If you just kind of erased all the labels and you just presented their balance sheets, their disclosures to a prudent investor, they couldnt borrow a penny, given how opaque their disclosures are and given how much risk is in there all over the place. Nobody would bother, but they get away with it. And youre saying that if we require banks to increase their equity, a third or 20 , 30 , yeah. That will make them safer . It would make them safer, and everything you can think about is going to be better. So, i am not saying its the Silver Bullet and the only thing, but its the most nobrainer thing to do, because it would only reduce all the distortion and would correct whats wrong now. And almost everything thats wrong basically comes down to too much Bank Borrowing and bad regulation. So, how do we get them to use more of their own money for the great risk they take . There is nothing except make them stronger and get rid of ones that are not viable. In the crisis, quite clearly, many claims, anyway, and its quite reasonable to think that citigroup and bank of america, too, became insolvent. If you were to try to liquidate them on that minute, they wouldnt. They just have negative equity, okay . They wanted a war. Which, the corporation usually forces the bank to join. Instead, they were nursed back to life from zombies, you can call it. So, the thing to do is, any corporation, normal corporation that becomes, that lives on the edge and has creditors breathing down their neck is going to be forced to go to ask shareholders for money and show them what their business is. I want the banks to go to shareholders, to investors, to equity investors. First of all, theyre paying all their earnings. They should back up their deposits and everything else. They should use them for lending, use them for anything but to pay them out so they can keep borrowing. And then, my stress test is a very simple market test of that. All even, you know, all in this country, all the capital. Go sell your investments to some shareholder that bears a downside and see what they give you for your investment. If your stock price goes down, then it may be corrected to the right price. Maybe its too high right now because of the subsidies that youre in. And thats it. If you cannot raise equity at any price, that might mean you cant live without subsidies. So, youre saying raise more capital, more equity of your own and take your risks with that, yep. Was there a positive step in that regard in april . Regulators issued a new rule that required the big banks to maintain overall equity of 5 , up roughly from 3 , and 6 for federally insured subsidiaries. Is that a significant improvement . 5 . Who lives like that . Thats ridiculous what do you mean . No corporation lives on 5 equity on a regular basis, certainly not corporations that can harm other people when they go down, even into distress, that everybody starts getting nervous. The more credible theyre going to make the notion of letting them fail, the more everybodys going to scare for that, and youre going to get all these runs just at the start of it. Thats what we saw with bear stearns, Lehman Brothers. Thats what could ruin the financial crisis inquiry commission. The inquiry started before bear stearns went under, before Lehman Brothers went under. Thats the problem is you want to keep them way in a different range, and theres no science, i assert to you, no Science Behind any of these numbers, none. Its just that we got here and the banks hate to move from here, but its nothing about what we can do and should do and should focus on, because if you did that, then you might have to do less of some of the other stuff, and the rest of the regulation is very technical with all these very complex risk measures that goes thousands of pages that nobody can decipher. And so, a lot of the regulations just got so complicated, instead of focusing on basic needs, basic speed limits, being able to measure things and see things more clearly so that you can maintain the system, it can do for the economy on good times and bad times much more consistently and much without severe distortion. So, the takeaway is that as long as we are subsidizing these banks, as long as we guarantee em that they are too big to fail, were not safe . Thats right. And were subsidizing perversely the harm, because were encouraging them to live more and more dangerously. And they tell us its for our benefit, but we are the ones paying. So, its as if we subsidized somebody to pollute the river when they have a cleaner alternative. Id subsidize their equity if we had to subsidize anything, but were subsidizing them only through debt. They only get subsidies when they use debt. Because when they use debt, their creditors are given very easy terms, depositors and others who believe they are being paid. If they went to equity markets, theyll be facing the same thing everybody else faces. So, if they have Good Investments to make, they should make them. But they dont want to do that. Exactly, they just dont want to, so the point they got a good deal. They got a great deal. So, what theyre going to do is if they make profit, they want to pay them out and keep going. So, theres nothing essential or good about that except for a few people. And then who exactly wins and loses, they might turn, pacify the shareholders by saying, here, we give you dividends in good times. Then when the bad times come or when they have fines or anything else happens to shareholders pay, and who are the shareholders . Thats also all of us through our pension funds. And how did we do on the s p 500 . Very poorly. So, the notion that these institutions by living dangerously somehow help us, thats completely nonsense. And so, what we have is a really unhealthy system that we perversely get talked into subsidizing and supporting. This is, as so many people have said, a very important book. The bankers new clothes whats wrong with banking and what to do about it. Anat admati, thank you for joining us. Thank you. Thanks for having me. A postscript. The Washington Post reports that bank of america is negotiating to pay at least 12 billion to settle several federal and state investigations into the housing mess that led to the 2008 crash. Around 5 billion of the fine would go toward mortgage relief or helping communities that were devastated by the banks reckless and immoral practices. Heres the paragraph in the post story that blazes like a neon sign outside of a sleazy motel thriving on onehour rates. Bank of america, jpmorgan and others are accused of selling shoddy home loans to unqualified consumers, packaging those mortgages into securities, allegedly knowing they would eventually go sour and selling them t investors around the world. A puzzled reader wrote to the post, isnt this what a ponzi scheme does . Last month, the managing director of the International Monetary fund, christine