10 March 2010For once, the whipping boys and girls of finance are innocent.
The European Union is investigating Goldman Sachs Group Inc's role in the financial sleight of hand that helped Greece use swaps to postpone the day of economic reckoning past its ascension to euro membership. Goldman says, rightly, there was "nothing inappropriate" in the transactions it facilitated.
Most of the elements of a crime are present. There's a victim - trust in the common-currency project. There's a weapon, in the form of the derivatives that trimmed €2.37bn ($3.2bn) off the nation's debt burden. And there's a perpetrator, the Greek government, which knew its finances were too shaky to ditch its currency, the drachma.
There also seems to be an accomplice - Goldman Sachs, which had the financial-engineering skills to crack open Greece's budget deficit and spirit enough of its obligations away to a future date to ensure it qualified to join the euro.
What's missing is any broken law. The architects of European integration knowingly and with malice aforethought added the words "additional measures" in a footnote to the blueprint, letting Italy fudge its numbers to get into the club.
That's the same loophole Greece was able to exploit, in line with the rules, aided and abetted by Goldman Sachs. So while German chancellor Angela Merkel said this month "it's a scandal if it turned out that the same banks that brought us to the brink of the abyss helped fake the statistics," she's wagging her finger at the wrong party.
The DNA of investment bankers drives them to find and exploit malleable clauses, bend rules, take maximum advantage of the unintended consequences of legislation. Chastising Goldman Sachs for flexing its muscles on behalf of a customer is akin to slapping a kitten for its adventures with a ball of wool.
Society doesn't want to outlaw investment banking (not yet, anyway), any more than it wants to euthanise wool-bothering kittens. The trick is to keep the knitting supplies locked in a cupboard; the EU cannot leave the door ajar for reasons of Italian political expediency, and then complain when the floor ends up resembling a Jackson Pollock.
Creative accounting - which is just a polite way to talk about cooking the books - is nothing new for countries. Italy used a yen-denominated swap to give its finances a one-time puff and avoid the ignominy of failing to qualify for the euro.
In the UK, so-called public-private partnerships and private finance initiatives allow the government to shift the burden of costly infrastructure onto the balance sheets of companies that tender successfully to manage and build the projects. The companies get access to rampant profit potential, in return for the government suppressing its debt burden.
Greece is a particularly apt subject for the old joke about lies, damned lies and statistics. In September 2004, the nation had to revise up its deficits for 2000, 2001 and 2002. The gap for the first year was more than doubled to 4.1 percent, while that of the two later years almost tripled to 3.7 percent.
Put bluntly, it turned out that the country had missed the three percent deficit threshold for euro membership in every single year since joining the common currency - transgressions that went unpunished. So no one should be surprised that Greek finance minister George Papaconstantinou confessed to "some sleight of hand" in Greece's 2009 deficit numbers.
The Greece debacle is likely to hasten and worsen increased oversight of the derivatives market. In particular, contracts where the buyer doesn't have any skin in the game are akin to writing auto insurance for people who don't own a car and don't even have a driver's licence, but who nevertheless fancy a bet on the likelihood of a car crash.
Financial authorities will probably outlaw such behaviour, ignoring the difficulties of differentiating between efficient risk management and risk creation. Moreover, governments are clearly uncomfortable with the concept of investors being able to bet against a country's creditworthiness in the credit- default swaps market. This may spur an unwelcome and unnecessary intervention by the dead hand of regulation.
The trick Goldman Sachs employed to help Greece massage its debt figures hinged on using historical, rather than prevailing, currency rates in a series of swap transactions. While that undoubtedly comes under the heading of fast-and-loose, it's not illegal; swaps are over-the-counter contracts between consenting adults, so no matter how divorced the values are from reality, it really isn't anybody else's business.
Goldman Sachs has become the lightning rod for public anger about the global bailout of the finance industry. The vexation is appropriate; there's too little humility and too much arrogance, and scant recognition that every financial firm, no matter how clever its partners, would be dead without an ocean of taxpayers' money keeping the system afloat. In the case of Greece's swaps, though, Goldman Sachs has done nothing wrong. The European Union's forensics squad should be looking closer to home for its culprit.
AP
