WSJ: SIGNS OF THE FUTURE OF BANKING AND FINANCE EMERGE
CALIFORNIA'S DEREGULATION DISASTER
EXPLAINING THE ENRON BANKRUPTCY
WALL STREET JOURNAL
DEREGULATION: A DISASTER
Signs of the Future of Banking and Finance Emerge
By CARRICK MOLLENKAMP, JOELLEN PERRY and ALESSANDRA GALLONI
DAVOS, Switzerland -- Early signs of what the future banking landscape will look like are emerging amid some evidence of improvements in corners of the financial market. For the moment, the main focus for regulators remains fire-fighting in the U.S. and Europe to stave off the nationalization of banks and generate bank lending. Among these emergency measures are sweeping insurance packages for souring bank assets.
Against this backdrop, a picture is emerging on how banks will be regulated in the future. The supervision is likely to be vast.
In a speech here Friday, German Chancellor Angela Merkel heaped criticism on what she called an "unfettered" capitalist system. She called for an overhaul of the financial system, suggesting that a new, United Nations-level economic council might be needed to avoid another crisis.
"We need clear-cut rules world-wide," she said. Davos, known in the past as a celebration of profits, this year was more of a cold outpost where attendees, including regulators, bankers, and hedge-fund managers, have been sorting through a raft of back-to-basics strategies for the world's financial system.
"In the end, what we want is a financial industry and banking-sector industry where you have more capital, less debt, more rules and much stronger supervision," said Italian central-bank governor Mario Draghi. He said markets largely remain frozen and that the only thing that would attract investors -- many of which actually serve as lenders because they invest in debt -- is an assurance of safety and transparency.
"The only thing we can do to help restart the market is to tell the world that there are certain kinds of real products that are simple to understand, easy to price and satisfy certain legal conditions," Mr. Draghi added. Still, there are slight signs that the freeze in lending among banks might be starting to thaw. This month, for example, a critical barometer for the health of the financial sector -- the London interbank offered rate -- showed signs of stabilizing. Libor, which is a measurement of bank borrowing costs, soared last fall after Lehman Brothers Holdings Inc. filed for bankruptcy because banks stopped lending to each other. Though Libor has fallen since start of the year, it has edged higher in recent trading sessions in London. Three-month dollar Libor on Friday was 1.18%, up from 1.08% on Jan. 14.
Among the new rules of the game for banks are likely to be simpler models that rely less on off-balance-sheet vehicles and borrowed funds to drive profits. There also likely to be fewer opportunities for banks to offload risk to third parties -- such as American International Group Inc. -- that then end up unable to insure themselves against losses or exposures to loans.
Regulators are also likely to force banks to be clearer and more transparent about the type of risk that exists on their balance sheets. In recent years, few people knew that big banks used affiliates known as structured investment vehicles to invest in securities underpinned by mortgages. When those vehicles were unable to sell short-term IOUs known as commercial paper, banks had to step in and cover the debt.
Within this new banking landscape, hedge-fund operators face their own changes. At a Credit Suisse Group lunch Thursday, held in what usually serves as a furniture store on a main Davos road, Eric Mindich, chief of hedge fund Eton Park Capital Management, said funds will be consolidating. He also said funds will be forced to better match assets and liabilities in order to ensure liquidity in times of stress.
Making heavy use of debt will no longer be possible to power growth, said several Davos attendees, including Martin Senn, chief investment officer at Zurich Financial Services. "I think the industry will be required to hold more capital, which will lead to less leverage, which will eventually lead to more stable institutions," he said.
—Bob Davis contributed to this article.
Write to Carrick Mollenkamp at firstname.lastname@example.org, Joellen Perry at email@example.com and Alessandra Galloni at firstname.lastname@example.org
Printed in The Wall Street Journal, page A7
Deregulation is a recipe for disaster. It offers speculators the high-risk opportunity to wreak havoc on the stock market on the backs of taxpayers. Examples of market deregulation that caused monstrous disasters are the savings and loan debacle of the 1980’s - $124 billion bailout, the Enron implosion, and most recently, the prime mortgage meltdown involving a $30 billion bailout of Bear Stearns.
If It's Not Dead on Arrival, Someone Should Shoot It Quick
Paulson's Fixit Plan for Wall Street
By MIKE WHITNEY
March 31, 2008
It is being billed as a "massive shakeup of US financial market regulation", but don't be deceived. Treasury Secretary Henry Paulson's proposals for broad market reform are neither "timely" nor "thoughtful" (Reuters) In fact, its all just more of the same free market "we can police ourselves" mumbo jumbo that got us into this mess in the first place. The real objective of Paulson's so called reforms is to decapitate the SEC and increase the powers of the Federal Reserve. Same wine, different bottle. Paulson's motive is to preempt any regulatory sledgehammer that might descend on the entire financial industry following the 2008 election. There's growing fear that an incoming Democrat may tote a firehose down to Wall Street.
If Paulson's plan is approved in its present form, Congress will have even less control over the financial system than it does now and the same group of self-serving banking mandarins who created the biggest equity bubble in history will be able to administer the markets however they choose without the inconvenience of government supervision. That's exactly what Wall Street, the Treasury Secretary and the folk at the Fed want; unlimited power with no accountability.
Paulson is expected to lay out guidelines and principles that are intended to help regulators supervise the financial markets. According to AFP:
"The President's Working Group on Financial Markets said the current regulatory structure is working well despite calls by some US lawmakers."
In other words, the failing banking system, the housing meltdown, and the frozen corporate bond market are all signs of a robust financial system? This may be the most ludicrous statement since "Mission accomplished". The system is imploding and people are being hurt by the fallout. Thirty years of industry-led lobbying has dismantled the (admittedly frail ad porous) regulatory regime which made US financial markets the envy of the world. Whatever credibility and transparency once existed were washed out in the Clinton era, as with Glass-Steagall and government oversight of the explosive growth of over-the counter derivatives instruments. Now the system is prey to all types of dodgy debt instruments, suspicious "dark pool" trading and off-balance sheets operations which further reinforce the belief that cautious investment is no better than casino gambling.
"The regulatory line of sight today is by the counterparties," the official said, adding that the guidelines should be "beneficial to industry." (AFP)
How is that different than saying, "Caveat emptor"? That's not a motto that inspires confidence. Many people still naively believe that planning their retirement should not have to be a Darwinian tussle with a crafty junk-bond salesman.
Under Paulson's plan, the Federal Reserve will be granted new regulatory powers, but whatever for? The Fed doesn't use the powers it has now. No one stopped the Fed from intervening in the mortgage lending fiasco, or the ratings agency abuses or the off-balance sheets shenanigans. They had the authority and they should have used it. The folks at the Fed knew everything that was going on---including the mushrooming sales of derivatives contracts which soared from under $1 trillion in 2000 to over $500 trillion in 2006---but they decided to cheerlead from the sidelines rather than do their jobs. The fact is, they were worried that if they got involved they might upset the gravy-train of profits that was enriching their bankster friends.
Former Fed chief Greenspan used to croon like a smitten teenager every time he was asked about subprime loans or adjustable rate mortgages. And, as New York Times columnist Floyd Norris points out, (Greenspan) "praised the growth in the derivatives market as a boon for market stability, and resisted calls to use the Fed's power to increase regulation." Of course, he did. It was all part of Maestro's "New Economy"; trickle-down Elysium, where the endless flow of low interest credit merged with financial innovation to create a Reaganesque El Dorado. There are no regulations in this version of Eden, not even "Don't bite the apple". Anything goes and to heck with the public, they can fend for themselves.
Now its Paulson's job to keep the neoliberal flame lit long enough to make sure that government busybodies and bureaucratic do-goodies don't upset the cart. That means concocting a wacky public relations campaign to convince the public that Wall Street is not just a pirate's cove of land-sharks and bunko artists, but a trusted ally in maintaining a strong economy through vital and efficient markets.
The Times' Norris summed up Paulson's sham reforms like this:
"The plan has its genesis in a yearlong effort to limiting Washington's role in the market. And that DNA is unmistakably evident in the fine print. Although the proposal would impose the first regulation of hedge funds and private equity funds, that oversight would have a light touch, enabling the government to do little beyond collecting information - except in times of crisis. The regulatory umbrella created in the 1930s would grow wider, with power concentrated in fewer agencies. But that authority would be limited, doing virtually nothing to regulate the many new financial products whose unwise use has been a culprit in the current financial crisis. ("In Treasury Plan, a Reluctant Eye over Wall Street", Floyd Norris, New York Times)
What nonsense. The house is on fire and hyperventilating Hank is still wasting our time with this rubbish. The real problem is that Paulson and his buddies at the Federal Reserve think of the financial system as their personal fiefdom so they refuse to loosen their \ grip even though the economy is listing starboard and the water is flooding into the lower decks.
Once again, the New York Times:
"All the checks and balances in the plan reflect the mindset of its architect, Treasury Secretary Henry Paulson, who came to Washington after a long career on Wall Street. He has worried that any effort to substantially tighten regulation could hamper the ability of American markets to compete with foreign rivals."
No one elected Paulson to do anything. He has no mandate. He is an industry rep. who has worked exclusively for a small group of wealthy investors who have put the entire country at risk with their toxic mortgage-backed bonds, their reckless Ponzi-type speculation, and their off-book chicanery. Paulson should be removed immediately and returned to his wolf's lair at G-Sax. If Bush is serious about straightening out Wall Street, then bring in Eliot Spitzer. He's probably available, at least in daytime hours. And he'll do what it takes to clean house, that is, put a truncheon-wielding robo-cop in every trading-pit at the NYSE, and dispatch government accountants to every office of every CFO making sure they have a Big Red Pen in one hand and a taser in the other. That's the only way to get the attention of the bandit-class.
"I do not believe it is fair or accurate to blame our regulatory structure for the current turmoil," says Paulson.
Paulson is wrong. The current turmoil is all about the lack of regulation and he'd better prepare himself for some big changes. The pendulum is already in motion and tighter regulations will soon follow. There needs to be an accounting process for all transactions and capital requirements for every financial institution that creates credit. No exceptions. All of these businesses pose a real danger to the overall system and, therefore, must conform to clearly articulated and strictly enforced rules; no off-balance sheets operations, no dark pool trading, no unregulated derivatives contracts, no level 3 assets, no "mark to model" garbage bonds where CFOs unilaterally decide what they are worth by picking a number out of a hat. Its time to restore order to the markets so retirees and working class families can feel safe investing in their futures. They are the ones who are most hurt by Wall Street's endless trickery.
Paulson's plan is a non starter. The era of sandbagging, supply-side banditry is over. Good riddance.
Mike Whitney lives in Washington state. He can be reached at: email@example.com
RPT-Investors worry that Paulson plan curbs SEC power
Tue Apr 1, 2008 3:01am EDT
By Rachelle Younglai
WASHINGTON (Reuters) - The U.S. Securities and Exchange Commission's role of policing the markets and monitoring investment banks would diminish under a Treasury Department proposal to overhaul the country's financial regulation, experts said on Monday.
Treasury Secretary Henry Paulson's plan would give the Federal Reserve more power to oversee market stability and monitor systemic risks from non-bank institutions like Wall Street investment banks and hedge funds.
The plan also proposes combining several bank regulators into a single prudential financial regulator to focus on safety and soundness of firms with federal guarantees such as commercial banks.
That would in essence strip the SEC's relatively new oversight of five investment banks, Bear Stearns (BSC.N: Quote, Profile, Research), Goldman Sachs (GS.N: Quote, Profile, Research), Lehman Brothers (LEH.N: Quote, Profile, Research), Merrill Lynch (MER.N: Quote, Profile, Research) and Morgan Stanley (MS.N: Quote, Profile, Research).
"A number of responsibilities that are being turned over to the Federal Reserve Board and to a new regulator of consumers represents a taking away from the SEC," said Arthur Levitt, former SEC chairman under President Bill Clinton.
The SEC's duty is to monitor investment banks' capital and liquidity and respond quickly to any financial and operational weakness in the companies.
However, the agency's oversight has been criticized after Bear Stearns was forced to seek emergency funding from the Federal Reserve and JPMorgan Chase & Co when its liquidity deteriorated significantly.
The Fed, with the Treasury Department's approval, decided to guarantee $29 billion of illiquid Bear Stearns' assets and allowed JPMorgan to offer $10 a share for what was the fifth-largest U.S. investment bank.
Paulson was quick to point out that the so-called blueprint for regulatory reform was not intended as a response to current market turmoil and should not be implemented until the difficulties are resolved.
INVESTOR ADVOCATES CONCERNED
Paulson's plan recommends that investment advisers be self-regulated, as are broker-dealers, which are overseen by the Financial Industry Regulatory Authority. Registered investment advisers are currently overseen by the SEC.
The proposal also recommends the merger of the SEC and the Commodity Futures Trading Commission, with an eye toward merging the regulators' philosophies.
"This, along with proposals to rely more on self-regulation and loosen regulatory oversight over self-regulatory bodies, does not bode well for retail investors," said Barbara Roper, director of investor protection of the Consumer Federation of America.
Rich Ferlauto, director of pension and benefit policy for the American Federation of State, County and Municipal Employees, said one of his main concern with the Treasury's plan was that it diminishes the power of the SEC.
"It will protect the integrity of large financial institutions, but it doesn't protect individuals from market risk or fraud," he said.
If Paulson's plan comes to fruition, the SEC would fall under the auspices of a regulator called the "Conduct of Business Regulator," which would have the responsibility of protecting consumers and investors, as well as achieving greater consistency across product lines.
A former Democratic SEC commissioner said adopting the CFTC's prudential approach to regulation would change the SEC entirely.
"Either you are an enforcement agency and you stress deterrence, or you are a prudential safety and soundness (regulator) and you essentially try to 'keep problems in the family,"' said Roel Campos, who left the agency last fall.
The SEC and the CFTC approach regulation quite differently. The SEC, which was established after the 1929 market crash to restore investor confidence in capital markets, is rules-based and relies heavily on enforcement to protect investors.
The CFTC was created in the 1970s to regulate futures and options. It takes a principles-based approach to regulation and supervises the markets prudentially.
The pro-business U.S. Chamber of Commerce said the Paulson plan would be good for the SEC and for investors.
"For the SEC, what this is going to provide is a more rational, nimble, simple and more-effective-for-everybody regulator," said David Hirschmann, president of the association's Center for Capital Markets Competitiveness.
(Additional reporting by Karey Wutkowski; Editing by Dan Grebler)
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CALIFORNIA'S DEREGULATION DISASTER
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by HARVEY WASSERMAN
[from the February 12, 2001 issue]
Blackouts, brownouts and soaring electricity rates have defined the political landscape of California since last spring. They've transformed the phrase "utility deregulation" into a household epithet. They've stopped in its tracks a nationwide wave of electricity restructuring that has already claimed two dozen states and was about to sweep the rest. And they've helped create a crisis whose economic and ecological shock waves will carry deep into the new century.
The roots of this unnatural disaster lie in the corporate boardrooms of the utility companies now on the brink of bankruptcy. It was their mismanagement and greed that led directly to some of the greatest miscalculations in US business history. Those missteps, and their impact, were clearly predicted by consumer and environmental activists, who fought to prevent them. "This was a catastrophe we all saw coming," says Dan Berman, co-author of Who Owns the Sun? "But the power companies had an agenda to push and the money to foist it on the public. Now we all reap the whirlwind."
California's dereg disaster began in 1996, when the state's three dominant utilities banded together to force on their ratepayers "the largest corporate ripoff in American business history," as Ralph Nader has put it [see Wasserman, "The Last Energy War," March 16, 1998]. At the time, Pacific Gas & Electric (then the nation's largest privately owned utility), San Diego Gas & Electric and Southern California Edison were caught in a squeeze between their big industrial customers, who were threatening to generate power on their own, and the burden of their own bad investments in obsolete generators, mainly nuclear power plants. They were also tired of having their rates regulated by the state's ninety-year-old Public Utility Commission. What they wanted was to cash out of those bad investments, keep their big customers and make profits at will, without regulation.
So they proposed the following: Regulation of distribution lines will stay intact. We will separate the business of generating power from the business of distributing it to the public. We will spin off much if not all of our generating capacity (though in fact much of this was done only on paper, with power plants merely being transferred to the distribution companies' parent corporations). Then, as pure distribution companies, we will compete with other resellers for customers, who can choose their suppliers and even purchase "green" energy from companies selling wind and solar. Competition will rule. Prices will go down.
The price tag for Californians? Somewhere between $20 billion and $28.5 billion in upfront "stranded costs," i.e., direct paybacks to the utilities for their bad generating plants. These charges would be levied through "transition fees" and other surcharges, buried in customers' bills but adding up to as much as 30 percent of monthly payments. During the time it would take to pay back those bad investments, retail prices would be frozen. The California Public Utility Commission would also get $89 million in ratepayer money to promote the new scheme, giving utilities a leg up on whatever competition might materialize.
A bill, AB 1890, was drafted in SoCalEd's offices. After a few perfunctory hearings, the legislature passed it unanimously and Governor Pete Wilson, then a presidential candidate, eagerly signed it. Some consumer and environmental groups were furious about a wide range of issues, most notably the reactor bailouts, which they worried (correctly) would prolong the operating life of deteriorating nukes and other polluters. So in 1998, as the bill was taking effect, a broad coalition put a repeal on the ballot. Surmounting virtually impossible odds, the coalition gathered more than 700,000 signatures in less than five months. Initial polls indicated the measure would be a close call, but the utilities spent $40 million, calling in their chits with labor, ethnic and other organizations around the state. The repeal went down, getting 27 percent of the vote.
But in their haste to cash out, SoCalEd and PG&E made some critical miscalculations. Most important was their assumption that there would always be a surplus of cheap wholesale electricity. So they sold off too much of their generating capacity and had too little of their own supply at a time when rates were still frozen. Then came a hot summer and a cold winter. Natural-gas prices shot up. Some key generators went down. Storms knocked out transmission lines. The nukes had problems. The utilities found themselves at the mercy of independent producers who'd snapped up generating capacity and could manipulate the wholesale market. Having dismantled key efficiency programs, the utilities now realized that their customers, buying power at fixed costs, had little incentive to conserve. So demand quickly outstripped cheap wholesale supply, which now spiked up at the whim of those with power to sell. PG&E and SoCalEd became wounded, bleeding whales at the mercy of sharks they could not control.
Companies like the North Carolina-based Duke Energy, Reliant of Texas and the Houston-based Enron, the nation's biggest natural-gas distributor (and a key supporter of George W. Bush), made billions selling power at high rates to the companies that had just sold them their generators. By one estimate, since last spring PG&E and SoCalEd have spent $12 billion more on power than they were able to collect from their customers. In some cases, the two companies were forced to sell juice to consumers at a rate of $64 per megawatt-hour while paying $1,400 for it.
Even rival utilities got into the act. Oregon's Portland General Electric withdrew a proposed rate hike for its own customers when it realized it could sell power in California at a higher profit. At least two large bauxite smelters in the Northwest shut down and realized some $500 million in profits by selling into the southbound grid cheap electricity they were buying on long-term contracts with hydro generators. Selling power was, simply, more profitable than making aluminum. Perhaps most telling of all, the parent companies of PG&E and SoCalEd made as much as $3 billion selling power to electricity distributors, which were now pleading for state help to avoid bankruptcy.
California Governor Gray Davis made repeated calls to the Federal Energy Regulatory Commission and other national bodies to help fix prices, guarantee supply and punish those companies gouging California consumers. But if the crisis has illustrated anything, it's the inability of federal agencies to control powerful suppliers whose political clout is exceeded only by their ability to have their way with one of the world's most complex entities, the electric-power grid. "Never again can we allow out-of-state profiteers to hold Californians hostage," vowed a frustrated Davis. But at this point it's not clear who could prevent it. Congress has debated national deregulation bills, but they've gone nowhere. And most were headed in the wrong direction, giving the private companies more license to mess with the system, not less.
None of the two dozen other states that have deregulated have yet suffered a disaster on California's scale, but the results have been decidedly mixed. By promising low rates and real competition, Massachusetts utilities beat back a 1998 repeal on the same day as the California repeal vote. Says Deb Katz of the grassroots Citizens Awareness Network, "Massachusetts rates are now some of the highest outside California. The only ones benefiting are the nuclear corporations that have had their bad debts paid on our back." Similar stories are repeated in nuke-laden Illinois and Michigan. In Ohio ratepayers have been saddled with more than $5 billion in bad reactor debts, and no real competition is on the horizon. In Pennsylvania, citizen groups beat back some of the utilities' stranded-cost demands. As a result, some margin has opened up for actual competition, and green energy suppliers have made some headway. But in Texas, which deregulated right in the midst of the California crisis, and in New York, which is doing it piecemeal, the results are not yet in. In two dozen other states that remain regulated, and in Congress, the term "gun-shy" might apply.
In California itself, consumer advocates want to put a sweeping rollback on the 2002 ballot. Harvey Rosenfield of the Foundation for Taxpayer and Consumer Rights, an early AB 1890 opponent, and others believe the utilities' ability to hoodwink the public will be severely constrained by recent memories of tripled electric bills and borderline survival. Gene Coyle, an energy analyst, says that if prices "shoot skyward again, a campaign should be winnable."
The state and private utilities are now caught in a vise. San Diego Gas & Electric, which had fewer stranded costs to pay off and thus quickly escaped the rate freeze, was able to double and triple its rates last summer, infuriating Southern California consumers. Meanwhile, Governor Davis is soaking taxpayers to buy power to resell to SoCalEd and PG&E to save them from bankruptcy because their rates are frozen. But if they weren't frozen, their rates would double and triple, infuriating the rest of the state.
"It's all been a big shell game," says Oakland-based activist Paul Fenn (see www.local.org). "The distribution companies are causing panic by threatening bankruptcy with huge paper losses. But the parent companies are quietly taking huge profits while not accounting for all that stranded-cost money, which is tucked away in foreign and out-of-state investments. Meanwhile, the public gets no tangible assets in exchange for the subsidies. It's an astounding ripoff."
Through it all, dereg apologists are having a hard time explaining why two California power companies were immune to the crisis: the Los Angeles Department of Water and Power and the Sacramento Municipal Utility District. Both are owned by the public, and both maintain heavy commitments to renewables and efficiency. In 1989 Sacramento voted to shut its one nuclear reactor, and has since pioneered a major shift to solar, wind and biomass energy, with heavy commitments to conservation.
During the crisis, rates charged by both companies have been stable. The two "munis" actually made money selling power to their embattled private neighbors, underscoring the fact that throughout the United States, public-owned power districts supply electricity cheaper and more reliably than the private utilities. The California crisis has already spurred grassroots movements in San Francisco, Davis and elsewhere to demand municipals of their own. "In the long run," says author Dan Berman, "public ownership is central to any real solution to the problems of the electric-utility grid."
So is conservation. At the peak of the crisis, Governor Davis ordered widespread efficiency measures that kept demand down without significant impact on the health and safety of the public. "Had the state been more aggressively pursuing efficiency all along," says Coyle, "much of the crisis could have been avoided."
Nonetheless, the constant drumbeat for more generating capacity will be hard to counter. And the widespread assumption is that any new power plants will be fossil- or nuclear-fueled. But every US reactor ordered since 1973 has been canceled. There are none now under construction here, and resistance would be ferocious, especially in light of nuclear power's role in prompting the crisis in the first place. A year ago, natural gas would have seemed the logical choice for new generating capacity. But prices have soared and aren't likely to come back down soon.
Which leaves what the consumer/environmental community that opposed AB 1890 has been arguing for all along--renewables. The most notable new Western power plant is now stringing its way along the Oregon-Washington border. It consists of 450 windmills with sufficient capacity to power 70,000 homes. With construction under way in February, electricity could be surging out by December 31, a far faster construction timetable than for any other source. The fuel supply will be cheap, stable and clean. Environmental opposition will be nil.
Thanks to 15,000 windmills built in the 1980s under Governor Jerry Brown (now mayor of Oakland), California once produced 90 percent of the world's wind power. But the big utilities wanted little to do with them. Last year the world-leader's mantle slipped to Germany, which built the equivalent of a large reactor's capacity in wind power. Had California done the same, things might have been different. "The message is clear, " says Coyle. "The power supply needs to be controlled by the public. And efficiency and renewables work. Do we have to go through this again to relearn those lessons?"
EXPLAINING THE ENRON BANKRUPTCY
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(AP) --The Justice Department is conducting a criminal investigation of Enron Corp., the energy-trading giant whose swift descent into bankruptcy has raised numerous questions.
Q:What happened to Enron?
A: The Houston, Texas-based company, formed in 1985, grew into the nation's seventh-biggest company in revenue by buying electricity from generators and selling it to consumers. It was admired on Wall Street as a technological innovator.
But it used complex partnerships to keep some $500 million in debt off its books and mask its financial problems so it could continue to get cash and credit to run its trading business.
Enron officials have acknowledged that the company has overstated its profits by more than $580 million since 1997.
In a six-week downward spiral last fall, Enron disclosed a stunning $638 million third-quarter loss, the Securities and Exchange Commission opened an investigation into the partnerships and the company's main rival backed out of an $8.4 billion merger deal.
Enron filed for protection from creditors on December 2 in the biggest corporate bankruptcy in U.S. history. Its stock, worth more than $80 about a year ago, has tumbled to less than a dollar a share. Enron's collapse left investors burned and thousands of employees out of work with lost retirement savings.
Q:Why is the Justice Department investigating?
A: Prosecutors are probably looking at whether fraud was involved in the reliance on off-balance-sheet partnerships and whether Enron defrauded investors by concealing information about its finances.
Q:What about other federal agencies and Congress?
A: Four congressional committees are investigating. In one inquiry, Senate investigators are issuing 51 subpoenas for documents from Enron's current and former directors and senior managers and from its auditing firm, Arthur Andersen LLP. The auditing firm said that a "significant but undetermined" number of documents related to the company had been destroyed.
Also, the U.S. Labor Department is examining the way Enron handled its employees' retirement benefit plans. President George W. Bush ordered his economic team to review pension rules that could put other companies' workers and retirees at risk.
Q:What happened to Enron's employees?
A: Enron, which had 20,000 employees, barred them from selling Enron shares from their retirement accounts last fall as the stock price plunged, saying the accounts were being switched to a new plan administrator. Many longtime employees, including those who worked for energy and utility companies that Enron acquired, had their life savings wiped out.
Testifying at a Senate hearing last month, several employees disputed a company assertion that they were locked out of their Enron-heavy 401(k) accounts for 10 business days, saying it was much longer.
Q:Are there any protections under law for those employees?
A: Apparently not, since pension benefit protections under the federal Employee Retirement Income and Security Act do not apply to 401(k) retirement investment plans. Many Enron employees and retirees have joined in lawsuits against current and former company executives and directors, and against auditor Andersen.
Q:What about the company executives and directors? Did they also lose money from their Enron stock?
A: Top Enron executives cashed out more than $1 billion in company stock when it was near its peak, lawmakers have noted. In addition, nearly 600 employees deemed critical to Enron's operations received more than $100 million in bonuses in November.
Q:What did Bush administration officials know about Enron's financial situation?
A: The White House disclosed that Enron Chairman Kenneth L. Lay telephoned Treasury Secretary Paul O'Neill last fall "to advise him about his concern about the obligations of Enron and whether they would be able to meet those obligations." Lay also told O'Neill that Enron "was heading to bankruptcy." In a separate phone call to Commerce Secretary Don Evans, Lay similarly worried that the company might have to default on its obligations "and he was worried about its impact on the energy sector."
Q:Where did Enron's political clout come from?
A: In its heyday, the company lavished contributions on politicians. Enron and its employees have been the single biggest group of contributors to Bush's campaigns. The company's headquarters in downtown Houston was a new $200 million, 40-story glass tower, and it agreed in 1999 to spend $100 million over 30 years to put its name on Houston's major league ballpark. Now a share of Enron stock costs a lot less than a $4 hot dog at Enron Field.
Deregulation: A Recipe for Disaster