Goldman Sachs case goes to heart of Wall Street: Gottliebsen

The US Securities and Exchange Commission case against Goldman Sachs will go to the heart of the way modern investment banks are run and will challenge the American success dream.

The chairman and chief executive officer of Goldman Sachs Lloyd Blankfein is a classic illustration of the US success dream. He was born in the Bronx and his father was a postal clerk. Thanks to a Harvard education he rose to head the most profitable and powerful investment bank in the world. Whether Goldman Sachs is declared guilty or innocent of the SEC charges the knives will be out for Blankfein.

Investment banks like Goldman Sachs are in effect a house with many mansions including massive research, trading, stock placement, risk, advice and many other operations. The mansions are supposed to run separately but the essence of the SEC case is that Goldman marketed sub-prime mortgage products designed to fail.

Over the weekend, analysts on Wall Street suggest that Goldman Sachs at worst will cop a $2 billion penalty – which is peanuts compared to its $65 billion shareholder funds – and life will go on as before minus Blankfein and one or two other Goldman executives. I disagree.

By Goldman’s own internal criteria, this case goes much deeper. At the top of Goldman’s basic business principles are three pillars:

• Our clients’ interests always come first. (“Our experience shows that if we serve our clients well, our own success will follow”).
• Our assets are our people, capital and reputation. (“If any of these is ever diminished, the last is the most difficult to restore. We are dedicated to complying fully with the letter and spirit of the laws, rules and ethical principles that govern us. Our continued success depends upon unswerving adherence to this standard.”)
• Our goal is to provide superior returns to our shareholders.

The base case of the SEC is that Goldman put its third business principle above the first two. Yet according to Goldman’s own words, its continuing success depends on its reputation.

Even before the SEC case, Goldman is the fifth least admired company in the US, according to a Harris Interactive poll. Ahead of it are four bad performers – Freddie Mac and Mae, the AIG insurance group and Citicorp. My guess is that irrespective of the outcome of the case, Goldman will rise in the Harris bad boy ranking to become the least admired company in the US. That means that the vast number of talented and honest people who work for Goldman Sachs around the world will start their client relationships by trying to restore a reputation – a task which Goldman itself says is very difficult.

The head of the Financial Crisis Inquiry Commission, Phil Angelides, told Blankfein that Goldman’s sub prime practices were “a little bit like selling a car with faulty brakes and then buying an insurance policy on the buyer of those cars”. Right or wrong, that’s a good summary of the way the world sees investment banking as practised by Goldman.

Even if Goldman wins the case and fires Blankfein, I don’t think it will be enough. Repairing the damage to Goldman’s reputation will require a different way of operating and in the process investment banking will be changed dramatically.

This article first appeared on Business Spectator.