Stock Plot: Corporate Scandals Reprise Wall Street Themes of Passion, Broken Hearts

23 July 2003

Today's corporate scandals are a repeat of a cycle of infatuation and
betrayal recurring throughout Wall Street's history. Wall Street would not be
Wall Street without its episodic display of high-fliers who descend as fallen
financial angels.

The drama goes back to The Street's origins in l792 as a financial center and
follows a rather predictable script. As always, the three symbolic streets
of America play their parts. During the euphoric phase of this repetitive
cycle, there are the Wall Street schemers and speculators with privileged
information, the Main Street small investors who are seduced into the setup,
and a compliant, cheer-leading Pennsylvania Avenue representing the
policy-regulatory monitors.

Recently, the first large investigatory undertaking after the puncture of the
dot.com bubble produced the "Global Settlement", dealing with the
inconsistency between what investment bankers told themselves and their
retail clients about technology IPOs, or Initial Public Offerings.

But Wall Street has been through all this before. Its origins in the l792
Buttonwood Agreement among 24 elite brokers followed on a plan of the first
treasury secretary, Alexander Hamilton, for dissolving Revolutionary War
debt. Financial scandal ensued. As that cycle of euphoria turned to despair,
the leader of the speculation, William Duer, suffered a fate described thus
by a New York contemporary: "There is scarcely anything but Noise and Racket
last night, and the night before we had a mob raised, and nothing would satisfy
them but [to get at] the father of Speculation, the great William Duer,
who is confined in gaol at present ... Lately the mob has endeavored to get
him out of gaol, but the Mayor and city officers have prevented them as yet".
Today's version, of course, is the "Perp Walk", when we see fallen financial
giants handcuffed and led before the media.

After that aspect of the cycle came government attempts-some successful, some
not-to prevent future scandals. The 1792 Buttonwood signatories tried to
fend off intrusive regulation as the New York state legislature was
considering a law banning all brokering in financial paper. To accomplish
this, they established the first important legal principle governing Wall
Street, that of an exclusive self-regulated private organization which would
organize sales and purchases of financial paper under rules it would formulate itself.

There was no need for government regulation, they argued, because any
individual could enter this market and invest his money at his own risk under
the rules of this club. This notion of a private self-regulated institution
is the core legal foundation behind Wall Street, and prevailed until l934
when the Securities and Exchange Commission was created during another cycle
of boom and bust. (In some corners that notion still obtains today, as in the
current debate over the accounting industry, which also asserts its claims as
a private self-regulated club with rules and standards of its own making.)

Investment banking, the target of the recent global settlement, first made
its mark on Wall Street during and after the War of 1812 when its leader,
Nathaniel Prime, inspired the great canal-building era in America, which
included the monumental Erie Canal (1835). Prime became the first president
of the New York Stock and Exchange Board (1817) from which today's NYSE takes
its lineage.

Prime, who sought to establish a bond of trust between his firm and his
clients, would no doubt be appalled at the behavior of his counterparts
today. Like many who would follow him, however, Prime lived out his later
years as a rich man with a troubled spirit. One contemporary account of him
stated that, "A strange fancy seized upon his mind, that he was becoming
poor, [and] that his destiny was to die in an almshouse. Under this singular
monomania, and hallucianation of mind, he cut his throat with a razor, and
died on the instant".

The phrase "Dictum meum pactum", (my word is my bond), embraces the idea of
fidelity between investment banker and client. It reached its pinnacle in the
late 19th century era of J.P. Morgan with the creation of the trust certificate, attributed to a Wall Street lawyer, Samuel C.T. Dodd. Morgan issued trust securities and exchanged them for
individually-held company shares. He acquired voting securities, and those
who sold them to him received from him income-producing trust securities while
giving up voting rights.

Morgan concentrated enormous economic and industrial power in his bank. He
made himself the trustee not only of other people's money, but also asserted
trusteeship over the nation's industrial wealth, and claimed stewardship over
the value of the nation's money. He even exceeded today's standards; he and
his partners held 72 directorships in 112 corporations, and underwrote some
$2 billion in equities in the first decade of the 20th century. Some 78
companies had direct banking relations with the Morgan bank.

Populists of the late 19th century challenged the assertion of Morgan as
warden over the nation's wealth. Like others today, they claimed that two
sets of banking practices were used in the United States: one for the wealthy
and the banks of Wall Street, where character and connections were the basis
for credit, and another for the Main Street banks where the transparent
balance sheet was the basis for credit.

After Morgan's remarkable feat of single-handedly bailing out and stabilizing
the dollar in world markets (1907), Congressional hearings were convened to
look into what was called "The Money Trusts". The comittee counsel, Saumel
Untermyer, underscored the existence of dual banking systems in a colloquy
with Morgan, asking: "Is not commercial credit based primarily upon money or
property?" "No sir", Morgan answered. "The first thing is character".

Morgan died in l913, and a year later a new voice emerged, that of Louis D.
Brandeis, the future Supreme Court Justice known as "the people's lawyer".
He framed the issue in terms of "Other People's Money", the title of his
1914 book. In it, he discussed how money's concentration was usurped by
a "financial oligarchy" that was "dangerous...when combined in the same
person".

The recent global settlement is about all of these questions raised by
previous scandals and financial imbrogilios. It is, first, about the
self-regulating private character of Wall Street that shields residual
activity not proscribed by statute. It is still unclear whether any laws were
violated by research departments of investment banking firms knowingly
passing on false information about securities they underwrote in IPOs.
Second, keeping two sets of books harkens back to the dualism previously
faced by Wall Street insiders and Main Street outsiders. Although unethical,
this practice appears to be within existing law.

Like William Duer in the nation's first financial scandal in 1792, today's has
many surrogates for a Wall Street in which some feast at the high table,
while others feed off leftover scraps. Also today, as throughout Wall
Street's history, when infatuation turns to betrayal after a bubble's burst,
there is talk of the end of Wall Street. But nothing can replace it in the
monopoly over the American imagination, the country's infatuation with money
as idol and the quixotic attachment to the one place that embodies the
gambler's illusions that are scattered about the many Main Streets of
America.

Wall Street continues to be in the business not only of marketing
securities, but of manufacturing dreams.

Copyright 2003 Los Angeles Daily Journal

About the authors

Howard Wachtel

Howard Wachtel is a former TNI fellow and an expert on the financialisation of the global economy who foresaw the financial crisis long before it struck in autumn 2008. His book in 2003 Street of Dreams. Boulevard of Broken Hearts: Wall Street's First Century (London: Pluto Press) is a widely respected history of the infamous New York street.  Howard was the first co-ordinator of TNI's Global Economy Programme and currently a Professor Emeritus of Economics at American University in Washington DC.