Are the interests of PIMCO and its CEO Bill Gross at odds with those of the American taxpayer? Braintruster Rob Johnson explores the questionable business of the government/private investor handshake.
Merry Christmas, Mr. Gross
Bill Gross, founder of PIMCO, the world's largest and most influential bond investment house, embodies a crucial dimension of this financial crisis -- the enrichment of questionable financiers at taxpayer expense. Just yesterday, the New York Times gave Mr. Gross a Christmas present: a puff piece which failed to ask important questions about this celebrity bond trader and his influence on government.
The bailout, you'll recall, was done with taxpayer money - not, as Joe Stiglitz, Luigi Zingales, John P. Hussman and I suggested, through the debt of the unsecured creditors (debt/equity swaps). That decision dealt out billions of dollars from taxpayers to bank bond holders like PIMCO investors. It also made Mr. Gross (a self-described fan of blackjack) a big winner in the public policy design that will impact US public finances for years to come. In his June 20 New York Times profile, "Treasury's Got Bill Gross on Speed Dial," Devin Leonard picked the right subject, but he missed the point entirely. His discussion revealed neither the scope of the ethical questions surrounding Mr. Gross nor the resulting opportunity cost for society.
When I say ‘opportunity cost,' I mean the portions of the $800 billion taxpayer contribution to unsecured bank bond holders that could have been used to support education, roads, bridges, and healthcare provision. Instead of society coming out ahead, we rewarded the wealth-holders that made bad bets on bank debt when asset quality on bank balance sheets deteriorated and wiped out equity. Future generations are the losers, forced by our policy officials to support the existing unbalanced distribution of wealth.
At PIMCO headquarters in Newport Beach, CA, the mortgage trading operation is on one floor, and on the floor below, traders are working on behalf of the Federal Reserve. Leonard recounts a curious episode showing Mr. Gross taking great care to separate himself and the bond funds from the department at that deals with the government. When Mr. Gross wishes to bestow a holiday greeting upon the troops down at the government desk, he brings a lawyer who speaks on his behalf: "Mr. Gross said ‘Merry Christmas.'" This bizarre ritual is ostensibly evidence that 1) Mr. Gross has a heart, which is on display during the holidays, and 2) conflicts of interest are being handled ethically. Actually, both these inferences are both beside the point. Despite the corny portrait of ethical compliance, this not where the conflict between large, influential bond investors and the government lies, and Mr. Gross knows it.
But does the New York Times know it? Leonard does not question the false purity of having a lawyer present to bear witness to the wishing of Merry Christmas, and that is perhaps the most curious fact of all.
Mr. Gross Plays Bailout Chicken
Timothy Geithner likes dialing him for advice. Alan Greenspan works as his consultant. But who is Mr. Gross? Is he a financial architect and a communicator? Or is he a pontificator and an intimidator? And what exactly has he been doing to benefit society that the government should be working so closely with him?
Not everyone agrees with my view that debt restructuring at large banks was the correct policy direction -- certainly not Mr. Gross. Some critics say that the game between taxpayers and bank bond holder is not zero sum. According to this argument, a restructuring of Citi or BoFA could have sent world capital markets into a tailspin and our real economy would suffer along with the diminished bond holders. We would all go down with the bankers' ship. Mr. Gross, for one, alleges that restructuring would have ignited another Lehman Brothers-scale crisis -- or more.
Leonard quotes Gross's ominous comments in a monthly newsletter: "If you thought Lehman Brothers was a mistake, just stand by and see what nationalizing Citi of B. of A. would do"
Simon Johnson, quoted in the Leonard piece, is among those who question the credibility of warnings about systemic meltdown by financiers who benefit from bailouts. Public observations made by someone referred to as the leader of the largest fixed income fund in the world -- a person economic historian Niall Ferguson has called "The Bond King" -- can be construed as threats when heard by government officials. Such officials may respond with what was once called a "capital strike" -- changing policies to benefit a powerful investor.
Leonard's article contains another telling passage on bank nationalization:
"Such nationalization, Mr. Gross insists, would be an unmitigated disaster. 'There are two grand plans,' he said this spring at a meeting of his firm's investment committee. 'One is the Krugman-Roubini plan. They think the banks have so much garbage they are beyond hope. The other side is the administration's side. That's the one we're on. If the other side should ever gain credence, then we'll have something to worry about."
Who exactly is the "we" in the statement "we'll have something to worry about"? Given that Gross was speaking to the investment committee and the scale of the losses are estimated at trillions of dollars -- beyond what any government could be expected to put forth in a bailout -- I would guess that the "we" was PIMCO rather than the nation. In other words, the resolution of Too Big to Fail was tantamount to losses Too Big for PIMCO.
But PIMCO's potential windfalls don't stop there. Stay tuned for analysis of the firm's involvement in other government financial business. Such involvement certainly qualifies the company for scrutiny alongside Goldman Sachs and their adventures in the realm of AIG that Gretchen Morgenson has illuminated. A deeper dig than Mr. Leonard conducted is certainly still worthy of pursuit.
In any case, no man should ever need a lawyer standing by in order to wish you Merry Christmas.
Braintruster and economist Robert Johnson is former managing director of Soros Fund Management. Dr. Johnson served as Chief Economist of the U.S. Senate Banking Committee under the leadership of Chairman William Proxmire and before that, as Senior Economist of the U.S. Senate Budget Committee, under the leadership of Chairman Pete Domenici.