Those appointed to look after baby-boomer retirement savings have long been helping the wealthy loot those funds. No lawmaker dares concede the full extent of the plunder, even though the largest asset collapse since Herbert Hoover has wrecked retirees’ prospects and worsened a fast-emerging fiscal nightmare. Washington’s rush to respond only masks its role in the rip-off as lawmakers enact innocuous new rules for auditors and spineless revisions in corporate governance while issuing sour-faced scoldings meant to muzzle stock analysts who have long hustled investors with corrupt research and ratings.
The greatest danger lies not in the stunning superficiality of the reforms but in the pretense that only a bit of tweaking is required to rid ourselves of a few bad apples in an otherwise healthy system. None of the reforms will help those cheated recover pilfered funds. Even with the reforms, retiree savings will continue to be sacked by executives who have already skimmed a half trillion dollars. With or without Wall Street’s hype, retirees will continue to see their savings ravaged by a Wall Street investment model that’s allowed 400 people to amass $1.5 trillion in a $10.2 trillion economy. Reform will only be meaningful when those responsible for this plunder are imprisoned, the stolen funds restored, and the model reformed. Anything less only confirms lawmakers’ complicity in the largest heist in human history, even as the pace of the looting is poised to quicken.
Over the next five years, tax subsidies for retirement will drain $553 billion from revenues the Treasury would otherwise collect, ranking retirement security second only to national security as a fiscal commitment. The magnitude of the funds involved explains why the scale of the thievery dwarfs any previous crime. Money managers oversaw $1.9 trillion in 1980. By 2000, their funds under management topped $17 trillion, including $7.8 trillion in mutual funds, up from $135 billion just two decades earlier. Over half that $17 trillion is directly traceable to tax subsidies for retirement -- 401(k) plans, stock bonus plans, defined benefit pension plans and such, my specialty for seven years as counsel to the tax-writing Senate Finance Committee, 1980-1987.
Federal law requires that this publicly subsidized capital be invested for the "exclusive benefit" of retirees and "solely for the purpose" of financing retiree benefits. Despite providing both a clear mandate and massive tax subsidies for a new type of "fiduciary capitalism," pension fiduciaries opted instead for an old investment model that obsesses on short-term financial returns with no concern for who reaps the long-term benefits - precisely the opposite of what the law requires. Given the entrenched oligarchy that now passes for democratic process in Washington, it remains an open question whether boomers can generate the political response required to rescue their retirement future from those responsible for this radical redistribution of wealth from retirees and taxpayers to the nation’s most well-to-do.
In 1982, the earnings gap between chief execs and their employees was an eye-popping 42:1 in the 365 largest firms that account for the bulk of retirement plan assets. That divide was already twice the maximum pay disparity advised by management guru Peter Drucker and even by J.P. Morgan, no stranger to greed. Both insist that 20:1 is the widest workable gap between managers and managed. Pension trustees figured otherwise. By 2000, their investments had converted that gap to a 531:1 chasm, according to an annual Business Week survey. Standard & Poor’s 500 blue-chip firms paid their top managers an average $20 million each in 2000. In a bad year, the 20 top-paid execs took home an average $117.6 million, up $5 million from the year before.
In 1975, when a national pension reform bill was signed into law and these tax-favored funds began to swell (total assets were then less than $800 billion), General Electric paid its CEO a princely $500,000 per year, a salary then equal to the combined earnings of three dozen typical Americans. By 2000, GE was paying Jack Welch 3,428 times that benchmark amount. While median income stagnated since 1975, Welch’s pay soared 289 times to $144.5 million. In retirement, Welch not only received a larger book advance than the pope, he also consults for GE at a daily rate of $17,000.
With pension trustees standing idly by, Advanced Micro Devices spent a half million dollars providing a chauffeured Mercedes to ease the commute of chairman W.J. Sanders, apparently concerned that Sanders couldn’t afford transport on his 2000 take-home pay of only $134 million. At Disney, compliant pension fiduciaries allowed CEO Michael Eisner to pocket a five-year, $731 million pay package, an ego-stroking 30,449 times Disney’s typical W-2. When Hollywood super-agent Michael Ovitz bolted after only 14 months on the job at Disney, Eisner eased his buddy’s pain with $94 million in cash and options, all the while paying women in Bangladesh five cents for every $17.99 Disney shirt they sew. The compensation committee of Disney’s board then included not only Eisner’s personal attorney but also the principal of his kids’ school and an actor under contract to Miramax, a Disney-owned studio.
At Oracle Corporation, another pension-fund favorite, CEO Larry Ellison cashed-in expiring options September 7, 2001 for a gain of $706 million. Pension trustees must have seen that as a much-needed incentive in a company where he held only $22 billion in stock after pocketing a gain of $681 million on a sale of Oracle shares in 1999. By comparison, the Red Cross collected a record $129 million in the first eight days after September 11, 2001.
In financial-services firms, a popular pension plan holding, CEOs pulled down 12,444 percent more pay in 2000 than in 1990. After raiding Travelers Insurance Group for several hundred million, CEO Sanford Weill saw his personal portfolio jump $248 million the day he merged Travelers with Citicorp. The typical Citigroup teller would need to work 16,067 years to match his $482 million pay from 1998 to 2000.
Academic specialists in principal-agent theory argue that management pay should be tightly linked to the employer’s stock price as a way to align execs’ incentives with shareholders’ interests. Great theory, except they assume that managers and shareholders negotiate at arm’s length, a notion that only the ivy-towered among us would dare suggest. Their theory also assumes that the cost of managers’ pay is disclosed rather than hidden in obscure footnotes, where stock option costs remain in this post-reform world. The egghead set also prefers to pretend that CEOs are overseen by vigilant boards when directors are often both picked and paid by those they’re hired to oversee. Plus directors are commonly paid heavily in stock and stock options, merging the interests of overseer and overseen while motivating both to bend the rules to boost the stock price.
At AOL Time Warner, directors receive an annual grant of 40,000 stock options, fueling an incentive to pump-and-dump: boost the stock price $1 and your oversight nets you enough for a new BMW; ten bucks and you’re making serious money. Throughout the booming 80s and 90s, CEOs commonly chaired the board and controlled the board’s three key oversight committees: nominating (picking managers and directors), compensation (setting the pay of managers and directors) and audit (providing financial oversight of managers and directors). Though the competition is fierce, Weill frequently tops the annual list of looters with a pay package that grants him reset options so that he receives new Citigroup options each time he exercises old ones.
Most executive-suite raiders long ago dropped even the pretense that their pay bears any relation to performance. Good times or bad, the pillage proceeds. In March, USA Today reported large company CEO pay hikes of 24 percent for 2001, a year when share prices sank 13 percent. A half dozen publications now measure management pay every year, each using a different yardstick. In its 2001 survey of 200 large publicly traded firms, The New York Times found that median CEO pay rose seven percent while profits plunged 35 percent. In its Spring 2002 survey, The Wall Street Journal found that, even at market-tattered tech firms, cash compensation for top-tier execs surged 18 percent.
Super-looters like Eisner, Ellison and Weill are hardly unique. In The Bigger they Come, the Harder They Fall, Boston-based United for a Fair Economy chronicles the financial performance of the nation’s ten top-paid execs from 1993 through 1999. If you invested $1,000 in 1993 in each of those firms, by 2000 your ten grand was worth $3,585. The courts will need to sort put how much of that value vanished into the long since diversified brokerage accounts of the nation’s most skillful skimmers. Labeling them the "Bankruptcy Barons," The Financial Times reports that top execs of the 25 recent largest corporate failures skimmed $3.3 billion before stiffing their shareholders and creditors.
At Tyco, long a pension fund favorite, CEO Dennis Kozlowski and his chief financial officer quietly unloaded $500 million in shares since 1999, all the while insisting publicly they rarely if ever sold shares. Tyco lost 73% of its market value this year, leaving retirees and other outsiders $86 billion poorer. Like Weill, Koslowski’s over-the-top pay package eased his entry into Manhattan High Society. Weill gained entree to the board of Carnegie Hall while Koslowski bought his seat on the Whitney Museum’s board with a $4.5 million Tyco donation to their traveling art exhibit. Even Barbary Coast pirates would blush at the audacity of the plunder as these hired hands, financed with tax-subsidized savings and overseen by pension trustees, raided their firms for hundreds of millions. What’s not yet clear is when trustee complacency became outright complicity.
The racketeering required to move so much money into so few hands calls for cooperation not only from boards and trustees but also from those who consult on executive pay. As in-house counsel to one of the largest compensation consulting firms prior to joining Senate staff, I later marveled at how smoothly these pay specialists aided and abetted insiders in ravaging retirees’ savings. At SBC Communications, their modus operandi was obvious yet skillfully obscured. Beginning with a cash payment of $3.1 million in 1992, then $4.4 million two years later, CEO Edward Whitacre steadily stashed away a fortune as he was granted annual stock option grants. The frequency of those grants converted a long-term pay-for-performance system into a short-term personal enrichment scheme when, from 1995 to 1996, SBC’s share value rose sharply and then abruptly fell. Whitacre’s annual stock option grants gave him a golden carrot simply for nursing the stock back to where it was, entitling him to skim a bundle while the share price treaded water for everyone else.
His 1997 pay package totaled $21 million. Yet even that largesse was difficult for investors to grasp because consultants divided Whitacre’s pay into seven separate categories: salary, bonus, restricted stock, stock options, long-term incentive plan, "other," and "all other." With SBC’s board setting each category independent of the other six, his pillaging became opaque, masking a special retention grant of $8.7 million for 1997, $12.5 million for 1998 and comparable rewards ever since. A long-term incentive component, beginning with $2.2 million in 1997, duplicated the purpose of both his stock grants and his stock options.
Even with SBC’s stock down a third, more than its Baby Bell competitors and more even than the drop in the S&P 500, Whitacre’s multi-pocket pay package topped $29 million in 1998 and $25 million for 1999. Responding to the downturn in 2000, the board deftly reduced his bonus pay by 25% while raising his salary 32%. Relying on a pay strategy that insulated him from scrutiny and risk while leaving other investors to absorb the pain, his largest looting to date topped $82 million in 2001. Yet even that was not enough. Claiming a need "to assure his continued presence" in 2002, the board gave him four times as many shares as when the stock was at its peak, entitling him once again to skim tens of millions for recapturing value that other shareholders have already lost.
Tax policy plays a key role in such insider plundering because, year in and year out, the tax subsidies provided for retirement plans must be invested somewhere, ensuring a reliable market for executives whenever they cash in their stock. Oftentimes company-sponsored retirement plans serve as a handy market for managers to liquidate their company stock. Enron is hardly unique, where managers commonly cashed out by selling their Enron shares to Enron’s 401(k) plan.
In effect, we on the tax policy committees created a financial force that both bids up and holds up stock values through a publicly subsidized stock market propped up each year with $110 billion in taxpayer-provided support. By comparison, Washington commits $10 billion for foreign aid, $8 billion for the Environmental Protection Agency and $1 billion to the Centers for Disease Control. Foregone with that pension subsidy are the financial resources required for education, health care, R&D, environmental clean-up, or even retirement facilities for those whose retirement prospects these looters ravaged. As a hands-on legislative craftsman, it’s clear to me that fiduciaries failed in their duty to oversee these immense pools of money as the law mandates - for the "exclusive benefit" of retirees and "solely for the purpose" of providing them benefits decades in the future.
As financial markets tumbled, making it transparent how these trustees had steadily lain waste to retirees’ savings, several titans in the financial-services industry felt obliged to show their social solidarity. At Citigroup, the congenitally greedy "Sandy" Weill, named the nation’s "top pig" by pay analyst Graef Crystal, proudly announced his intent to pay himself a threadbare $36.1 million for 2001, just one year after receiving a $215 million pay package, topping off his decade-long heist at a bit more than $1 billion. Likewise, Goldman Sachs CEO Henry Paulson, with an estimated personal net worth of $280 million, agreed to a magnanimous 15% pay cut for 2001, taking home a hair shirt $18.9 million, including a $11.6 million cash bonus. Meanwhile, following advice offered pension fiduciaries by these moral giants, the plunder continues -- ongoing, all-encompassing and steadily accelerating.
One can only wonder what pension trustees and their Wall Street accomplices were thinking in April 1999 when Aetna acquired U.S. Healthcare and a single employee, CEO Leonard Abramson, was given $900 million in cash and stock along with a $25 million Gulfstream jet and $2 million a year in operating expenses. Or when a single Sprint employee, William Esrey, was granted a golden parachute that netted him $470 million when MCI WorldCom acquired Sprint in October 1999 and he was let go as CEO. Or when Compaq employee Eckhard Pfeiffer was paid $410 million in stock options plus $9.8 million in severance pay when forced to resign as CEO in April 1999 due to his subpar performance.
Where were these guardians and their Wall Street gurus when boards of directors nationwide became 60 percent staffed by CEOs, fueling a rapid racheting-up of executive pay in a mutual back-scratching scandal that consultants were happy to cover-up by recasting the plunder as comparable pay as CEOs set each other’s compensation, each pretending to be independent of the other. Reflecting back on his term as an outside director at United Wisconsin Services, Marquette University professor Tom Bausch still seethes when recalling the board’s reaction to a senior manager who refused an over-sized raise okayed by pay consultants Hewitt & Associates. On hearing the CEO protest that the compensation committee’s proposal was out of line by any measure, "the other CEOs on the board," Bausch recalls, "went catatonic at this ‘anti-free-enterprise’ response of the CEO of the company. After all, if this disease escaped the boundaries of our company, think of the damage that could be done."
Mutual funds played a key supporting role in the cover-up. In 2000, over half of Fidelity’s $9.8 billion in revenues came from employee-benefit services it provides to some 11,000 firms, making it unlikely that Fidelity would speak out against execs who retain their services. At Computer Associates, a Long Island software company, the board of directors approved 20 million shares for its top three execs, then valued at $1.1 billion. Had the stock been divvied-up among the company’s 9,850 employees, each would have received shares then worth $113,000. The Washington-Wall Street consensus was on hand to oversee the looting: director Alfonse D’Amato, retired U.S. Senator from New York, formerly chaired the Senate Banking Committee, while board member Richard Grasso chairs the New York Stock Exchange. The fact that those share grants were later challenged misses the point: why were they ever approved, particularly with pensioners as investors?
Goldman Sachs’ "Hank" Paulson set Wall Street tongues wagging when he proposed in a June speech that mangers and boards, his clients, might be abusing their firms. As for the role of stock analysts in conning pension funds to invest in those firms, he remains insistent that Goldman’s shills be allowed to continue with their pimping unimpeded, helping land lucrative assignments for Goldman’s investment bankers.
These modern-day marauders bring world-class sophistication to the art of the heist. At Oracle, as at many tech firms, CEO Ellison out-sourced much of Oracle’s compensation costs, relying on capital markets -- composed largely of pension money -- to pay people with options on their overvalued shares rather than Oracle coughing up more costly cash. Meanwhile, by politically squashing any hope of honest stock-option accounting, the Big Five accounting firms helped persuade investors that New Economy firms were virtually devoid of salary expense. Because the survival of those firms often relied on periodic infusions of fresh cash, largely to pay salaries, the bean counters could have issued qualified opinions to caution investors. But then that note of concern would have offset the fudged figures that fed the bubble that, in turn, enriched accountants, their clients, and the investment banking firms whose analysts helped lure the pension monies required to feed the bubble.
At dozens of firms whose stock prices plummeted, execs pocketed personal fortunes by cashing out while Wall Street firms maintained their upbeat ratings for other investors. Jack Grubman, Citigroup’s fabled telecom shill, advised investors to sell only after WorldCom had fallen from $60 a share to $1. Altogether, the telecom crash shed a half million jobs and $2 trillion in market capitalization, the largest redistribution of wealth in history, dwarfing the more highly publicized Internet boom and bust. Beginning in 1997, telecom insiders cashed out $14.2 billion, a trend that also typifies the dot-com crash.
At Ariba, insiders pocketed $859 million in stock sales from January 2000 through May 2002 while the stock slid 96 percent. That pillage mirrors the pattern at other firms over the same period, including $998 million in insider sales at Brocade Communications Systems while the stock fell 60 percent, $615 million at Sycamore Networks as the share value dropped 96 percent, $823 million at JDS Uniphase as the stock plunged 97 percent, and $848 million at Dallas-based I2 Technologies, including $480 million for CEO Sanjiv Sidhu, while the shares plunged 98 percent.
Throughout, retiree plans remained the largest single market for the shares of tech, telecom and dot-com firms, serving as the most reliable source of funds to drive share prices up and then purchasing those shares as insiders bailed out and prices fell. That includes Oracle as its stock soared and Ellison cashed-in. Now other shareholders are crying foul, including Local 144 Nursing Home Pension Fund, claiming that Ellison, No. 5 on the Forbes 400 list, rigged his 1999 windfall by fudging Oracle’s figures before pocketing his $681 million gain, only then publishing less optimistic projections, causing the shares to drop 21 percent. From January 2000 until May 2002, Oracle insiders cashed out $1.6 billion while the stock price slipped two-thirds.
At Global Crossing, CEO Gary Winnick skimmed $735 million, smoothly shedding 25% of his shares before the firm’s collapse. Global Crossing’s management team sold $1.3 billion between 1999 and the end of November 2001 while six members of the board skimmed $582.3 million from stock sales. As of early Fall, shareholders had lost $90 billion in Global Crossing, $93 billion at Enron, and at least $114 billion in WorldCom, plus $41 billion owed WorldCom’s unsecured creditors. In just the first half of this year, 112 companies restated their earnings. Hundreds of billions more were vaporized in overpriced mergers and acquisitions that led to massive write-downs, including $54.2 billion at AOL Time-Warner, the largest ever. By comparison, the FBI reports that, from 1998-2001, bank robbers in the U.S. made off with a mere $210 million.
Qwest Communications built its Wall Street reputation as one of the most financially reliable telecom firms as CEO Joseph Nacchio touted Qwest’s long streak of meeting analysts’ quarterly projections, ensuring that the inflow of pension money would steadily boost Qwest’s share price, attracting more pension funds and further boosting its share price as he fine-tuned the art of bankrolling a bubble. Qwest executives made roughly $500 million selling company stock from 1999 to 2001 while releasing profit numbers that the company now concedes included 220 transactions that were improperly accounted for. Nacchio pocketed $227 million while chairman Philip Anschutz, Qwest’s largest shareholder, made $1.5 billion in stock profits when he bailed out in May 1999.
Cisco, the Internet hardware-provider, has long been a high-tech favorite of pension plans. In 2000, before its share value tanked, top execs cashed in $308 million in stock options, including $157.3 million by CEO John Chambers, on top of the $122 million he took home in 1999. Extolling Cisco’s sizzling finances, The Wall Street Journal assured readers that Chambers deserved every cent. After all, Cisco stock jumped 91 percent in 1999, leading Worth magazine to rate him America’s top CEO. Now that Cisco’s share price has swooned, shredding more than $400 billion in market value, the Journal argues that Chambers deserves to share none of the financial pain because, after all, he can’t be held responsible for "market forces beyond his control" -- the same forces that enabled him to pocket 8,653 times the $8.74 an hour he pays those who clean his office. Given current trends, by 2021, according to compensation analyst Graef Crystal, a large company will emerge where the boss is paid more than the firm’s entire annual sales.
Those who challenge the critics of executive pay claim their ire is provoked by envy or by egalitarian yearnings. In truth, the issue is far simpler: how much value should an employee - any employee -- be allowed to strip out of a company in which people have invested their retirement savings and in which the public has invested immense fiscal resources? That public investment doubles the damage done by these looters because that budgeted subsidy forced taxpayers to forego the opportunity to invest those public resources elsewhere.
The law in this area is crystal clear: this enormous fiscal commitment is intended "solely for the purpose" of providing benefits for a broad base of Americans. Instead, as the financial influence of these pension trustees grew, so too did the fortunes of insiders and those already most well-to-do. In 1982, when Forbes magazine published its first annual list of America’s 400 wealthiest families, the threshold for inclusion was a personal net worth of $91 million. In 2000, that would have been $161 million, but by that time the cut-off point had risen to $725 million, much of that financed with the help of retirees’ savings wed to vast fiscal subsidies.
Forbes reports that in 2000 the U.S. was home to 274 billionaires, up from 13 just since 1982. The wealth accumulated by the Forbes 400 richest Americans grew, on average, $1.44 billion each from 1998-2000, for a daily increase of $1,920,000. That’s an average increase of $240,000 per hour, 46,602 times the minimum wage. By 2001, these trustee-favored few had amassed $1.54 trillion. The half trillion-plus skimmed by senior execs put many of them within shouting distance of those on the Forbes list.
Yet even these trends barely scratch the surface because funds set aside for retirement are only relevant when paid. That’s why these high-paid financial overseers routinely strut their stuff as "futurists" because federal law requires when investing those funds that trustees take into account the impact on the economy decades hence when paid-in funds are drawn down for retirement. Instead, by opting to rely on a rich-get-richer investment model, their oversight ensured retirees a future that’s both perilous and plutocratic.
For instance, with steady backing from pension fiduciaries, one family alone -- the five heirs of Wal-Mart founder Sam Walton - amassed $100 billion. While it’s obvious that this mega-retailer generated two decades of alluring returns, it’s equally obvious that these finance-futurists are obliged to consider a far broader picture. Wal-Mart operates some 3,300 outlets in the U.S. Its 2001 sales were just shy of $220 billion, up from $1 billion since 1979. For the first time in history, a retailer tops the Fortune 500 ranking of firms by annual revenues, crowding out Exxon Mobil, General Motors and GE.
In other words, those entrusted with America’s retirement future elected to commit funds to a financial build-out where six percent of nationwide retail spending now accumulates more capital for a family who have already amassed more wealth than the richest robber barons of the Gilded Age. Retirees are already in such poor shape that Medicare will almost certainly be expanded to cover prescription drugs. Many of those prescriptions will be filled at Wal-Mart’s 2,500 pharmacies, ensuring that any fiscal subsidy offered today’s seniors will worsen a fast-emerging fiscal disaster for tomorrow’s seniors.
Pension trustees misled an entire generation by attuning their investment strategy not to their fiduciary mandate but to Wall Street’s seductive sales pitch: "Maximize financial returns and, trust us, everything will work out fine." If only the future were so facilely formulistic and reductionistic. If it were, there would be no need to pay money mangers their handsome fees. Their decision to rely on that simplistic model means that retirees now find themselves imbedded in a demographic bubble of 76 million people, ages 38 to 56, barreling toward retirement with profoundly inadequate assets.
With their retirement savings used to fund dynamite returns and dysfunctional results, baby boomers have every right to be outraged. They’re already working 184 hours longer than in 1970, an additional 4-1/2 weeks on the job for roughly the same pay, 350 hours a year longer than the typical European. The certainty of their need for financial support in retirement is destined to worsen the nation’s already weakened fiscal condition. The inflation-fueling pressure of retirees’ demands, in turn, is certain to undermine the economic security of all those who live on fixed incomes, whether Social Security payments or private pensions.
The full implications of this fast-approaching fiscal train wreck remain just over the financial and political horizon, obscured from view by the pundits and the panderers of today’s Wall Street-favored investment model. Social Security, already the largest tax paid by 80% of Americans (90% of GenX), is poised to become the sole pension for a majority of baby-boomers. Thus, after two full decades of policies attuned to the market fundamentalist’s "Chicago" model, the largest asset for most Americans remains the same as before: a political assurance that their retirement security must rely on the proceeds of a job-tax.
The fiscal implications are staggering, particularly as boomers’ financial needs will emerge on the budgetary horizon just when available fiscal resources are receding. In large part that’s because fiscal crowding-out lies at the heart of the GOP’s political strategy. That unstated agenda was first forced into the open when Reagan-Bush Budget Director Dave Stockman, now a Citigroup investment banker, confessed that his "rosy scenario" fiscal projections were a political smoke-screen meant to obscure the effect of supply-side policies designed to shrink government by eroding its financial capacity.
The GOP’s multi-decade agenda slowed only slightly with New Democrats Clinton and Gore in the Oval Office. The 20-year impact of their crowding-out strategy is now wide-ranging and fast accelerating, its success receiving an unexpected boost when budget forecasters conceded deficits of more than $165 billion for 2002, a dramatic reversal from the $165 billion surplus projected for 2001. That one-year $330 billion budget swing, the largest in U.S. history, heralds a fiscal future certain to further cripple Washington’s capacity to provide assistance of any sort, a key goal of the market fundamentalists.
With Washington able to pick up less of the tab, governors face even tighter finances. Forty-eight of the 50 states report their 2002 revenues have fallen short of original estimates, often by wide margins. Whipsawed between rising costs and declining revenues, and long burdened by unfunded mandates from Washington, their fiscal complaints have for years gone unheeded as this crowding-out strategy progressed.
The impact of this strategy takes various forms, both perverse and predictable - health clinics closing, classroom sizes increasing. In California, Governor Gray Davis faces a $24 billion deficit, not counting Los Angeles County’s $800 million health-care deficit. A prolific fundraiser, this New Democrat has raised over $50 million for his 2002 reelection campaign, including $2.4 million from California prison guards who received a 34-percent pay raise to oversee more jail cells than Britain, France, Germany, Japan, Singapore and the Netherlands combined. Citing fiscal pressure, IRS audits for high-income taxpayers fell by two-thirds since 1995, reaching in 2001 a record-low one in 142 tax returns for those making $100,000 or more. Instead, the IRS raised its audit rate on those in the lowest income bracket because, with today’s fast-widening economic divide, the earned income credit is claimed by so many taxpayers that the five-year fiscal expense is expected to top $178 billion. Fearful the poor may abuse that handout, more than half those targeted for audits in 2001 had claimed the credit.
As regulatory oversight was systematically starved of funds or politically intimidated, the SEC became so understaffed that in 2001 it played financial watchdog to a record low 16 percent of corporate filings. After appointing an accounting industry lapdog as head of the SEC, the GOP failed in its attempt to eliminate 57 corporate oversight positions at a time when stock exchange trading volume had ballooned nearly sixfold since 1993, up 100-fold since 1972. State pension systems lost an estimated $3 billion in Enron alone, a cost of crowding-out that states will need to recover from their shrinking tax revenues. Unfunded liabilities for public pension plans leapt to $94 billion for 2001, up from $50 billion for the prior year. The shortfall for 2002 could be twice that for 2001.
The good news is this: it’s impossible for supporters of this crowding-out strategy to hide. Pension trustees have long been powerful players in this gambit, typically wielding their influence behind the scenes, their opinions conveyed instead by those who thrive on their fees, a key reason money managers and stock brokers now account for 71 of the nation’s top 400 political contributors. Of the top ten zip codes for campaign contributors, five run up the posh East Side of Manhattan, home to the nation’s money-management elite. One fifth of the 275,000 households worth more than $10 million live in the New York area, center of the campaign-finance universe.
As TomPaine.com columnist Mike Ryan points out, New York police and firefighters died while drawing annual salaries less than investment bankers pay to rent a house in the Hamptons for the flag-waving Fourth of July weekend. We don’t yet know the full extent of the pension losses suffered by public-sector employees in this Wall Street-facilitated looting. This much we do know: the dysfunctional investment model embraced by pension trustees is reflected in the policy environment their political contributions helped finance. Both are extensively documented, including the tax-subsidized money-management fees that routinely found their way from the Treasury to Wall Street before wending their way back into Washington’s campaign-finance coffers. During his first 19 months in the White House, Bill Clinton raised a record-breaking $39 million. During his first 19 months, George W. Bush raised $100 million while taking off four months following 9/11.
That financial circuitry makes it all the more disturbing to find that trustee-paid advisors funneled funds to policy-makers who proposed the partial privatization of Social Security. The leading proposal would redirect $100 billion per year of payroll taxes into an investment model where, from 1983 to 1998, 53 percent of market gains flowed to the top one percent of households. In 1997 alone, IRS figures show that 54 percent of capital gains were claimed by the richest 90,000 households, those with incomes of at least $1 million, many of them New York area residents, while the poorest 89% received just 11 percent. As these financial sophisticates know far better than the lawmakers they lobby, retirees require a future financial market that’s both large enough and liquid enough to absorb the sale of pension assets in order to pay retirees’ expenses. That makes it all the more unsettling to learn that paid agents of these trusted overseers advanced policies certain to raise short-term stock prices for the few while the long-term effect may heighten their fall for the many as pension funds compete with Social Security in selling-off securities to meet retirees’ needs.
Similarly, those trustee-funded advisors who backed last year’s $1.35 trillion tax cut knew that the fiscal tab for this latest round of crowding-out, if extended beyond 2010, will total more than twice the long-term Social Security shortfall. As Wall Street’s best and brightest, they knew that the topmost one percent are certain to pocket three-eighths of the benefits at a 10-year cost of $4 trillion, a fiscal expense certain to commence precisely when the costs of Social Security, Medicare and Medicaid are certain to soar.
As the campaign-contribution record reflects, advisors to these fiduciaries also pushed for repeal of the estate tax knowing that policy shift would reduce future tax receipts by another $740 billion from 2012 through 2021. The effect would be to zip-up the fiscal straitjacket just as the first baby-boomers turn age 67 while the bulk of that tax relief flows to the topmost one-thousandth of one percent. The impact of repeal would transfer at least $1.5 trillion to the children of 400 families, creating a fiscally induced economic aristocracy just when boomers are certain to most need fiscal assistance. Repeal would also gut the tax incentive for charitable giving, ensuring that bequests fall to foundations, universities, the Red Cross and such, de-capitalizing the nonprofit sector and halting growth in the sole remaining pool of capital dedicated to the common good.
As a seasoned legislative craftsman of federal law in this area, I search in vain for any semblance of the prudence, fiscal foresight or even simple decency and common sense expected of these pinstriped financial futurists and those they pay to provide them advice. By law, they’re required to perform as fiduciaries, investing funds entrusted to their care with a coherent vision of the future. Instead, what principle of economic distribution directs their oversight -- drink your fill and thirst for more? Why do these long-trusted hirelings still have their jobs? Why do those who hired them still have their jobs? After two decades of seeing them deploy these massive funds -- steadily preempting vast fiscal resources that crowded out other social priorities -- I figure anyone not outraged at the results is out to lunch. Yet Congress and the Bush II Administration embrace only the most trifling reforms directed solely at smoothing the rough edges of a chronically corrupt model.
All that remains in this multi-decade looting is to declare war, or something financially akin to it, ensuring the shift of fiscal resources to Pentagon spending and thereby further undermining boomers’ retirement security. As funding proposals for homeland security and the war on terrorism work their way through a compliant Congress and into financial markets, trustees will redirect retiree savings into those realms. Already analysts are issuing "buy" recommendations for firms identified as likely recipients of taxpayer funds expected to top $57 billion in 2003 for homeland security, plus as much as $2 trillion in Pentagon outlays over the next five years.
Politically, that shift is nudged along by the likes of Richard Farmer who contributed more than $1 million to the GOP’s 2000 election campaign, including $100,000 to the Bush inaugural. A former CEO and now chair of Cintas Corp., the nation’s largest uniform supplier, Farmer also stands to see his $750 million estate vastly expanded by taxpayer-funded government contracts and then exempted from estate tax. It’s people like Farmer who caused Goldman Sachs in 2001 to raise its threshold of those it considers "really rich" and deserving its best services from $100 million to $250 million while those with a mere million are expected to do their business largely online.
While pension trustees rightly view private capital accumulation as essential, the investment model they embrace treats as irrelevant the resulting capital accumulation patterns. Thus Cintas Corp. will be viewed as an attractive investment provided it generates competitive returns, even if the result lavishes Farmer with several billion in taxpayer-financed capital. Likewise for Microsoft, even if retirees’ investments help Bill Gates amass what Wired magazine predicts could become a trillion dollars in financial capital, possibly even a quadrillion (a million billion). That may not happen. Yet it’s enough to note that the Chicago-inspired investment model wouldn’t care if it did.
By choosing to embrace Wall Street’s cramped measure of success ("Maximize financial returns and trust us…."), trustees affirm their fiduciary breach, corroborating their utter lack of concern even if a handful of people capture the lion’s share of the financial value created by the build-out of an entire industry. The point is not whether that happens; the point is their clear indifference whether that happens. Gates’ wealth grew at a torrid 58.6 percent pace from Microsoft’s initial public offering in 1986 until the Spring 2000 Nasdaq crash. Project that trend to March 2005 and he could become the world’s first trillionaire. Another 15 years at that pace and he’s a million times over a billionaire.
With the Bush II Administration reneging on the Justice Department’s court-ordered promise to bust-up this acknowledged monopoly, baby-boomers may yet face a lengthy retirement in which their savings were invested in such a way that just two people, Gates and Microsoft co-founder Paul Allen, have more financial assets than their entire generation combined, all 76 million strong. Far-fetched? From 1983-1997, according to New York University’s Ed Wolff, only the top five percent of households saw an increase in net worth while wealth declined for everyone else. In assessing the booming 90s, Wolff found that the wealth of the typical middle-class household rose just four percent from 1989 through 1998. Like many techies, the market crash trimmed Gates’ Microsoft wealth from its 2000 peak of $130 billion. Again, the point is not whether he succeeds in growing his personal stake to a trillion or even a thousand trillion; the point is that the Wall Street investment model would endorse that dysfunctional future as a sensible build-out.
Fast-widening wealth and income disparities steadily fueled one another as the number of households worth $5 million doubled between 1983 and 1998 while those worth at least $10 million quadrupled, all with a boost from retiree savings turbo-charged with U.S. Treasury tax incentives. Apologists cite a vigorous 15 percent rise in average wealth between 1983 and 1988, and another healthy 11 percent average rise between 1989 and 1993. Citing "unprecedented prosperity," The Wall Street Journal exults that, by 1999, the average American household was worth $270,000. The median net worth, however, was $61,000, less than one-quarter the average. NYU’s Wolff documents that "living conditions stagnated in the 1990s for American households in the middle, while rapid advances in wealth and income for the elite pulled up the averages."
While funding a financially unworkable future, this build-out also fueled an overcapacity recession in which we were mired before the market crash made matters far worse, the inevitable result of an economic model that’s indifferent about economic distribution patterns. The Census Bureau reports that pre-tax median income was $1,001 higher in 1998 than in 1989, for a decade-long average annual raise, adjusted for inflation, of $111.22, or 0.3 percent while productivity soared 33 percent. Between 1983 and 1998, half the total gain in real income (47 percent) flowed to the topmost one percent while only 12 percent reached the bottom four-fifths. By 1999, the richest one percent of taxpayers claimed 19.5 percent of national income. The top fifth now pocket half of all national income (49.2 percent) while that flowing to the bottom fifth fell to a record-low 3.6 percent.
Even with the Federal Reserve propping-up middle-class spending with low interest-induced home-equity refinancing, this deeply imbedded economic divide ensures that the capacity to produce will continue to outpace household purchasing power. In fact, this socially divisive and financially disabling trend continues to gather steam as the share of national income flowing to the top one percent more than doubled, from 7.3 percent in 1977 to 15.7 percent in 1998, according to the IRS. The average income of the richest fifth jumped from nine times to fifteen times the income of the poorest fifth. By the mid-90s, the typical American, if he or she lost a job, had enough savings to maintain their standard of living for just 36 days.
At one end of the market-fundamentalists’ food chain, the pace of personal bankruptcies holds steady at 1.4 million each year for the past five years, an average 7,000 per hour as household debt topped $7.6 trillion in 2001, a record-breaking 73% of GDP. At the other end, anticipating brisk sales, Daimler-Chrysler launched over the July 4th weekend its $300,000 Maybach sedan while high-end boatyards report that market demand remains strong for super-luxury yachts, 150-feet or longer. On 9/11, ten of them were berthed in a Hudson River boat basin one block west of the World Trade Center in the shadow of the World Financial Center.
Worldwide, the current finance-fixated economic model has evoked a global environment where the income of the top one percent (50 million people) now equals the combined income of the poorest 57 percent (2.7 billion people). In 1960, the gap was 30:1 between the top and bottom quintile of the world’s income-earners. By 1998, that divide had grown to 74 to 1. The richest fifth now accounts for 86 percent of all goods and services consumed worldwide while the poorest fifth scrape by on just over one percent. Meanwhile, the world’s 200 wealthiest people doubled their net worth in the four years to 1999, to $1 trillion or an average $5 billion each. Those patterns are rapidly spreading worldwide. The World Bank, chief proponents of the current model, reports that 61.7 percent of Indonesia’s stock market value is held by that nation’s 15 richest families. The comparable figure for the Philippines is 55.1 percent and 53.3 percent for Thailand.
Baby-boomers are slowly awakening to the realization that they’re rushing toward a financial future for which they’re perilously unprepared, accompanied by a gnawing intuition that Washington’s finances also teeter on a precipice, as does the economy’s capacity to recover any semblance of robustness for any one other than the long-favored few. What’s not yet known is how this demographically dominant generation will respond politically once they realize that those trusted with their retirement future allowed Wall Street to loot their nest-eggs while feathering their own nests.
Also unknown is how they’ll react when they discover that their savings were deployed to finance a modern-day economic royalty both domestically and abroad while wrecking the nation’s reputation as a credible steward of the international political order. What sanction should be sought for those who transformed America’s global presence from that of a welcome and reliable partner in policymaking into a force that’s no longer desired and sought-after but oftentimes merely tolerated, even feared and hated?
I crafted federal law in this specialty area for seven years, longer than all but a handful of tax policy professionals. No financial fiduciary can credibly claim that today’s results are compatible with the statutory intent. Common sense says remove any fiduciary who embraced the perverse market-fundamentalist gloss given this crucial area of tax policy. Prudent pension oversight suggests a legal obligation to imprison as many trustees and investment managers as juries can be persuaded to convict. These funds were meant to underwrite a critical transgenerational covenant. Instead, trustees opted for an investment model that endangered an entire generation while pre-empting fiscal resources that might otherwise have been invested in a build-out that neither retirees nor the nation will now be able to afford. In practical effect, their decisions bankrupted both the nation and those who inhabit it.
That’s why History’s Largest Heist cannot be allowed to stand. Critics will carp that full recovery is akin to unscrambling an omelet when, in practical fact, it’s more akin to untying knots that trace their way through layer upon layer of agreements crafted by the world’s most sophisticated financial experts. Fully 70 percent of equities originate in New York, plus roughly 40 percent of bonds. That global dominance employs a huge cadre of well-paid attorneys, accountants, bankers and investment bankers -- all managing Other Peoples Money. The Big Five charged their accounting clients $28 billion in 2001 while the top 100 law firms billed $35 billion. Average profit per law partner: $792,500, with top-tier Wall Street firms paying twice that. Drawing on their advice and counsel, Manhattan’s finance-sophisticates opted for a two-decade build-out whose consequences we must now confront. The fees were astronomical, the results ruinous. Compare the legislative goal with the economic-distribution result and it’s clear we’re poised to enter a politically charged future as ripped-off boomers confront the challenge of how best to recover these massively misappropriated funds.
In no way should that recovery be misconstrued as a dreaded "redistribution of wealth." Quite the contrary. By choosing to invest those funds in a rich-get-richer investment model, trustees and their advisors steadily redistributed resources from retirees and taxpayers to the nation’s most well-to-do while skimming a tidy bundle for themselves. What’s required is a reallocation of capital that belonged to retirees all along, recognizing that what’s been offered to date in the name of reform is too little, too late.
As a 56 year-old boomer who had a direct hand in crafting the bulk of these long-abused laws, I say with full confidence that those funds and those tax subsidies were intended for our security in retirement. Federal law is clear on that point. Instead, fiduciaries and their advisors allowed unchecked greed, boardroom abuse and management racketeering to undermine both the welfare of pensioners and the fiscal future of the nation as their plutocratic build-out converted the world’s largest pool of capital into a parody of prudent investment management.
If incompetence is their defense, that suggests an ineptitude that encompasses the entirety of the financial-services industry and casts doubt on the economic model we insist be adopted abroad. If not incompetence, the alternative is complicity. Most chilling of all is the prospect that these money managers - including those who hired them and those who advised them -- knew exactly what they were doing. If so, it’s time these trusted overseers and their well-paid colleagues swapped their pinstripes for prison stripes, and that doesn’t mean the typical token prison term after which convicted criminals reclaim their ill-gotten gains.
Global Crossing CEO Gary Winnick served his financial apprenticeship as an understudy to the brilliantly corrupt Michael Milken, Drexel Burnham’s legendary junk bond king who, prior to his conviction, transferred an estimated $400 million to his family, retaining $125 million for himself, though he was forced to forfeit his toupee while he played tennis for 22 months at a low-security Club Fed. Though a repeat of that weak-kneed response would further impoverish an entire generation of retirees, that legal strategy remains a central theme of what’s been proposed to date in the guise of reform.
Regardless whether the corporate books are cooked or kosher, regardless whether accountants operate as advisors or accomplices, and regardless whether corporate directors are genuinely independent or outrageously conflicted, the unacknowledged point remains: the Wall Street model is itself the key source of corruption. Reform the model or other reforms remain largely inconsequential. While the absence of ethics is obvious, even that fact is only a sideshow. The focus of any real reform must be addressed to a massive disturbance imbedded in the financial and political structure of the nation, a reform that’s become essential now that finance and politics operate as one.
As American politics waits for America to wake up, co-opted lawmakers, both Demopub and Republicrat, continue to feed at Wall Street’s trough, financing their campaigns largely with kickbacks from the financial-services industry and from those deep-pocket few who’ve prospered under their rule. After two full decades of Wall Street-attuned lawmaking, even the political system is now substantially self-financed. Reagan-Bush policies boosted the federal debt from $909 billion in 1980 to $4200 billion by 1992, including $872 billion approved for supply-side economics. Clinton-Gore piled-on another trillion and change. Given the dramatic deterioration in the nation’s fiscal condition, by 2004 taxpayers may owe $7 trillion due to lawmakers who mortgaged the nation’s future to further enrich those who’ve long been most favored by their policies.
Taxpayers not only got the mortgage, they also got record-breaking debt, reduced government services, an under-funded infrastructure, and three major programs - Social Security, Medicare and Medicaid - expected to double as a share of the economy over three decades, putting unimaginable pressure on tax rates, the economy and the budget. And now the Washington-Wall Street consensus expects voters to fergeddaboudit, just let bygones be bygones, and hope that next time around we’ll catch the crooks before they get away with it?
When baby-boomers awaken, as they will, the political fallout will be noisy and potentially quite ugly, particularly once those nearing their hoped-for retirement grasp the key role played by those in elective office who’ve long embraced this corrupt model. The political tipping point awaits boomers’ understanding that they cannot otherwise expect either to catch-up or recover the financial resources they counted on, at least not in time for their anticipated retirement. The implications for GenX are even more troublesome and their discontent potentially far more politically destabilizing. That’s why the present political moment is so crucial; 2008 is too late to embrace the full range of reforms required to restore some semblance of fiscal commonsense.
In seeking restitution, how far back must genuine reformers look to right this wrong? That’s for the courts to decide, ever mindful that federal law has since 1975 mandated that these taxpayer-subsidized funds be invested exclusively for the benefit of retirees and solely for the purpose of financing their retirement.
Author of The Ownership Solution and Democracy at Risk, Jeff Gates is president of the nonprofit Shared Capitalism Institute.