How Financialization Left Michigan Footing the Bill for Wall Street’s Bad Deals
July 7, 2016
By Aman Banerji, Dominic Russel
In the last two decades, Wall Street banks have lured seven of the eight largest universities in Michigan into complex and risky financial deals. Through these deals, each school continues to pay millions to banks in fees while students throughout the state watch their tuition bills rise. City workers have suffered the effects of predatory finance, too: In 2014, Detroit filed for bankruptcy as city officials and emergency managers struggled to find ways to restructure the city’s budget. Guess who received payouts first? Wall Street banks hundreds of miles away, not Detroit pensioners depending on those funds to survive.
This fiscal crisis isn’t contained to universities and pensioners (though that would be bad enough). In 2014, thousands of Detroit households had their water shut off. Residents had seen their rates go up by more than 120 percent, but their money wasn’t being used to keep the city’s water infrastructure running. Instead, nearly half of it was going to banks to pay off toxic interest rate swaps.
From higher education to water access to pensions, the impact of the banking industry on public institutions in Michigan in the last decade alone has been staggering. Such predatory finance deals are the latest manifestation of the trend known as “financialization,” which refers to the increase in the size, scope, and power of the financial sector that has placed bankers and their priorities at the center of daily life, business, public policy, and more. Financialization’s impact is often measured by the financial sector’s explosive growth: the Finance, Insurance, and Real Estate (FIRE) ballooned from 10.5 percent of GDP in 1947 to 21.5 percent in 2009.
At the same time, the culture of financialization has engulfed both private and public institutions. Even 30 years ago, the notion that public institutions such as universities and municipal governments were being held hostage to fees from a series of complex financial instruments would have been unthinkable. But, in the age of financial derivatives and complex futures being used to modify risk, any pool of money, be it public or private, student loan debt or municipal government debt, becomes yet another opportunity for capital to exploit. In Michigan, public resources are clearly being siphoned into the hands of financiers and bankers hundreds of miles away.
Broadly, an interest rate swap is a deal through which a government or public institution buys a steady, fixed interest rate on a loan in exchange for the seller, a bank, taking on the risk of their variable-rate bond. Marketed to schools as insurance policies, the terms of these deals have been heavily tilted in favor of the banks, costing the borrower far more than it would have paid otherwise. In Michigan and across the nation, such toxic Wall Street deals are visible at all levels of government. Carrie Sloan, our colleague at the Roosevelt Institute, has already demonstrated how risky financial deals were responsible for a $537 million payout from the Detroit Water and Sewage Department to Wall Street, which led to thousands of water shutoffs across the city. Banks also preyed on the city itself; Detroit taxpayers sent $200 million to UBS and Bank of America for a series of interest swaps from 2009 to 2012 and another $85 million to finally terminate these deals.
But the impact of financialization is not contained to a couple of bad deals made by Detroit’s leaders in the early 2000s. In a forthcoming report to be released in September 2016, we push that analysis further by demonstrating the role of Wall Street in transferring hundreds of thousands of dollars in wealth from students back to banks through toxic interest rate swaps. Schools across the nation have lost millions on such deals, along with the transaction and termination fees associated with them. More staggering than the absolute losses of any single interest rate swap in Michigan is the extent to which the culture of financialization seeped into all existing institutions of higher education. Seven of the eight largest universities in the state—Michigan State University, University of Michigan, Central Michigan University, Eastern Michigan University, Grand Valley State University, Wayne State University, and Oakland University—took on bad financial deals, often because the risks of the deals were downplayed and poorly understood.
In the process, the line between public resources and private capital has been blurred. Water and education have become tradeable commodities on a private market, subject to disaster capitalism. Through the pursuit of short-term financial gain and clever investing, core public institutions have been stripped of their quality. We see this as Detroit water rates rise 120 percent in a single decade to pay off bankers. We see it as public universities, forced to fill the gaps where state funding has decreased, make desperate deals that end up costing students.
The financial system’s most successful project is not just the manner in which it siphons money from public institutions into its hands but the way in which it shifts the priorities within those institutions. Some of the most complex financial deals we found were built on large capital loans for student and auxiliary services, the two Department of Education categories for things such as football stadiums, recreation centers, and cafeterias. A financial system that shifts operating expenses onto the backs of students through ever-increasing tuition while harnessing the power of capital to build new, glamorous football stadiums is a broken system.
All of this is the bad news. The good news is this: There are significant grounds for redress. The terms of nearly every one of these financial deals are murky at best and fraudulent at worst. Banks misrepresented the risks and exaggerated the gains to college administrators who had little to no prior experience in such complex financial deals. If universities and municipal governments are going to start to get their money back, the first thing they have to do is demand it. And students, as some of the primary losers in this large, complex, toxic web, should be among the first to make those demands. We hope that these terrible deals can be the beginning of the end for the toxic intrusion of Wall Street in higher education. And in Michigan, we hope that it will help rebuild systems and resources that place the collective good of Michiganders above the short term profits of Wall Street: a higher education system that serves students, a pension system that serves an aging population, and a water system that ensures water access for everyone.