Treasure Islands - Nicholas Shaxson [41]
The modern offshore system did not start its explosive growth on scandal-tainted, palm-fringed islands in the Caribbean or in the Alpine foothills of Zurich or Geneva. It began its life in the City of London. American banks would soon dominate this market utterly. And, as is usual with so much that has happened offshore, very few people outside the financial sector even noticed.
Before proceeding with this tale, it is essential to understand something peculiar about the City of London.
Few British people, let alone anyone else, know that the City of London is the most important financial center in the global offshore system. Before getting properly into the strangeness of this ancient city, some of its more obvious offshore qualities are worth noting.
London’s first claim to be a tax haven is the subject of this chapter: its role as the creator and developer of the Euromarkets, Wall Street’s giant escape route from the checks and balances of U.S. financial regulation. Here the subsidiaries and affiliates of U.S. commercial banks have long been allowed to engage in, among many other things, investment banking—“casino banking,” as some have called it—something the Glass-Steagall Act of 1933 explicitly prohibited. Over the years, as this business became more integral to their global banking models, Wall Street could increasingly pressure the U.S. government to do away with the original restrictions to allow them to do at home what they already did offshore, and this was arguably the main factor that led to the repeal of Glass-Steagall in 1999. It was the classic offshore pattern: banks find an offshore escape route, then say in Washington, “We can already do this offshore—so why not here?”—and domestic regulations get relaxed.
London provides endless loopholes for U.S. financial corporations, and many U.S. banking catastrophes can be traced substantially to those companies’ London offices. The unit that blew up the insurance company American International Group (AIG), putting the U.S. taxpayer on the hook for $182.5 billion, was its four hundred–strong AIG Financial Products unit, based in London. The court-appointed examiner looking into the collapse of Lehman Brothers in September 2008 found it had used a trick called Repo 105 to shift $50 billion in assets off its balance sheet, and that while no U.S. law firm would sign off on the transactions, a major law firm in London was delighted to oblige, without breaking the rules.15 When the United States introduced the Sarbanes-Oxley regulations to protect Americans against the likes of Enron or Worldcom, the City of London did not follow, and more U.S. financial business flowed to London.
Another important role for London has concerned a seemingly arcane practice known as “rehypothecation,”16 a way of shifting assets off banks’ balance sheets. The U.S. has firm rules to curb the abuses, but London does not—so ahead of the latest crisis, Wall Street investment banks simply went off to London where they could do it without limit. A little-noticed IMF paper in July 2010 estimated that by 2007 the seven largest players in the market—Lehman Brothers, Bear Stearns, Morgan Stanley, Goldman Sachs, Merrill/BoA, Citigroup, and JPMorgan—had shifted $4.5 trillion off their balance sheets in this way. So this London-based practice injected trillions more debt into the financial system than would otherwise have been the case.17 The City of London and Wall Street banks got rich off this—and ordinary Americans will pay for it for years to come.
World oil markets are also affected by the London loophole. In June 2008, as world oil prices soared amid uproar about market manipulation, former regulator Michael Greenberger noted in testimony to a U.S. Senate Committee18 that the U.S. Commodity Futures Trading Committee (CFTC), the regulator for energy derivatives, had been pursuing a “continuous charade that a U.S. owned exchange (ICE) located in Atlanta and trading critically important