Mechanisms of Influence in Business-State Relations and the Troubled

Assets Relief Program

(Presented in August of 2015 at the Critical Finance Studies Conference at the

Copenhagen Business School and at the Economic Geography Conference at Oxford

University)

Dan Starkman

Keywords: Business-State Relations, Business and Politics, Business Power, Financial

Policy, Economic Policy, TARP, EESA, 2008 Financial Crisis, Bailout, Lobbying, United

States, Structural Power, Instrumental Power

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Following the onset of the 2008 financial crisis, the Troubled Assets Relief

Program was implemented as a policy solution to recapitalize banks and restore liquidity

in the financial system. The policy saw significant opposition from the general population

and was quickly billed as ‘the Wall Street bailout.’ Widespread sentiment that the

government had forsaken ‘Main Street’ to advance the interests of the financial sector led

to significant investigation into the nature of business-state relations with respect to

TARP’s formation and implementation. This paper seeks to explore the possibility that the

United States finance sector influenced the implementation of TARP. Using a theoretical

framework drawn from the works of Jacob Hacker and Paul Pierson, Ben Schneider,

David Broockman, and Culpepper & Reinke, this paper analyzes quantitative research for

the use of pathways of influence by the finance sector on the TARP legislation. The US

financial industry is operationalized as a sector, ex ante preferences are established from

market behavior, and the use of mechanisms of action is analyzed according to the nature

of the mechanism. The goal is to evaluate the degree to and way in which TARP’s

formulation and implementation was influenced by the finance sector to achieve its

preferred policy outcomes.

Background to the Crisis and TARP

In 2005, US housing prices peaked and began to decline, and as a result, so did the

value of mortgage-backed securities (MBS), a type of collateralized debt obligation

(CDO) that comprised a significant portion of many financial institutions’ asset portfolios.

Many large banks used mortgage-back securities as collateral for short-term borrowing;

often to purchase additional CDOs, as well as credit default swaps (CDSs). CDSs are a

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form of derivative that allowed market actors to take positions on the value of assets such

as MBSs, without those actors themselves necessarily having an insurable interest in said

assets. Due to lax regulation and poor institutional practices within the industry, MBSs

and other CDOs were comprised of bundles of mixed quality base assets, thus obfuscating

the level of default risk to the asset holder. The high degree of leveraging heightened this

default risk and, according to the Financial Crisis Inquiry Commission, many too-big-to-

fail institutions, such as Bear Sterns, Goldman Sachs, Lehman Brothers, Merill Lynch, and

Morgan Stanley had leverage ratios as high as 40:1.1 When the value of MBSs fell, the

effects translated across the securitization chain causing massive losses to highly

leveraged financial institutions. Banks’ attempts to deleverage only made the situation

worse by unloading toxic assets onto the market and further devaluing everyone’s

portfolios.2,3,4

The proximal event leading to the introduction of TARP was the collapse of

Lehman Brothers on September 15th, 2008. That day the Dow Jones Industrial Average

lost 504 points, or 4.4%.5 The escalation of the crisis resulted in additional bankruptcies

(including that of American International Group – AIG – the progenitor of many CDSs).

U.S. Treasury Secretary Hank Paulson proposed the Troubled Assets Relief Program or

TARP on September 19th of 2008, to recapitalize banks with liquidity problems using

federal funds. 6 The legislation introduced to Congress, known as the Emergency

                                                                                                               1  "The Financial Crisis Inquiry Report." (n.d.): n. pag. Financial Crisis Inquiry Commission, Jan. 2011. Web., xix 2  Varoufakis, Yanis. Chapters 4 & 5. The Global Minotaur: America, the True Origins of the Financial Crisis and the Future of the World Economy. London: Zed, 2011. Print. 3  Krugman, Paul. Chapters 3 & 4. End This Depression Now! New York: W. W. Norton, 2012. N. pag. Print.  4  Blau, Benjamin M., Tyler J. Brough, and Diana W. Thomas. 3. "Corporate Lobbying, Political Connections, and the Bailout of Banks." Journal of Banking & Finance 37.8 (2013): 3007-017. Web. 5  http://money.cnn.com/2008/09/15/markets/markets_newyork2/  6  Blau,  et  al.  3.  

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Economic Stabilization Act of 2008 (EESA) would authorize $700 billion to be used by

the Treasury Secretary to purchase troubled assets (such as MBSs) from financial

institutions through TARP. 7 The first EESA proposal failed to pass the House of

Representatives on September 29th. On October 1st, the Senate approved the EESA.8 The

bill finally passed the House on October 3rd and it was enacted as law.

Theoretical Framework

In their study of the formation of the US welfare state, Jacob Hacker and Paul

Pierson identify three central concerns in the study of business-state relations. First, they

highlight the importance of examining the various mechanisms of political influence

available to actors in the business community. Second, they stress the necessity of reliably

establishing the ex ante preferences of business actors. Third, they underline the need for

care in the extrapolation of influence from any correlation between observed ex post

policy outcomes and ex ante actor preferences.9 The three are synthesized in the need to

establish a relationship between preference, the capacity for and use of influence, and

policy outcomes.

Departing from the strict structural conception of business power, that “the market

is a prison” that confines government policy to considerations of profitability, Hacker and

Pierson advance a limited, variable conception of structural power. On their view,

business’ structural power constitutes a variable policy signaling mechanism based on the

threat of disinvestment. The credibility of this threat depends on a multiplicity of factors at

                                                                                                               7  "Breakdown of the Final Bailout Bill." Washington Post. The Washington Post, 28 Sept. 2008. Web. 29 June 2014. 8  Ramirez, Carlos D. Pg. 8. "The $700 Billion Bailout: A Public-Choice Interpretation." 7.1 (2011): 291-318. Review of Law & Economics. Web. 9  Hacker, J. S., and P. Pierson. 278. "Business Power and Social Policy: Employers and the Formation of the American Welfare State." Politics & Society 30.2 (2002): 277-325. Web.

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any given time, including overall and specific economic conditions, pertinent institutional

idiosyncrasies, culture, and the nature of the policies under contention.10 Where such

factors limit the threat of disinvestment, there is greater possibility of policy variation –

specifically in the direction of increased regulation or an augmented welfare state. “When

structural power fails, instrumental influence” comes to the fore.11 The instrumental

pathways of influence involve the ability of the business community to directly influence

government behavior by either staffing governments with its members or through

campaign contributions, lobbying, and other practices, licit and illicit. Culpepper and

Reinke further elaborate on structural and instrumental power conceiving of both as

existing on a dimension of agency. Either can function automatically or be practiced

strategically. Automatic instrumental power includes the revolving door, regulatory

capture, and the role of informal networks – it is power extrinsic to the economic position

of a firm enacted automatically due to the shape of institutions. Strategic instrumental

power such as lobbying uses firm resources actively to pursue particular policy ends.

Automatic structural power on Culpepper and Reinke’s view most closely resembles

Hacker and Pierson’s disinvestment signaling mechanism and arises primarily, but not

exclusively, from the economic position of the firm. The broader economy and state

capacity to effectively act on regulatory threats contextualize this aspect of structural

power. Strategic structural power, as in a capital strike, involves the concerted political

use of structural power to achieve policy ends.12

                                                                                                               10  Hacker  &  Pierson.  282.  11  Hacker  &  Pierson.  283.  12  Culpepper, P. D., and R. Reinke. "Structural Power and Bank Bailouts in the United Kingdom and the United States." Politics & Society 42.4 (2014): 427-54. Web., 433

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Establishing the mechanisms or pathways of influence is central to questions of

business-state relations as it allows judgments to be made regarding the distribution of

influence in a particular time and setting.13 To the question at hand, the influence of the

financial community on the bank bailouts, it is crucial to establish the mechanisms both

available to and used by the financial industry in the realm of US politics during the time

period of policy formulation and execution that led to and constituted the bailouts. Ben

Schneider outlines a number of mechanisms of influence relevant to the US political

system, the variegated reliance on which by the private sector he terms “portfolios of

business investment in politics.” Among the pathways or channels available to the

business community for “political investment” are business associations and consultative

councils, legislative lobbying, campaign finance and electoral politics, networking, and

outright corruption. 14 These largely fall under the conceptions elaborated above of

automatic and strategic instrumental power.

The type of mechanisms employed by business will depend on the opportunity

structure provided by the economic and political institutions of the country in question.15

In the United States, owing to more pluralist institutions and a more liberal market

economy, business-state relations are more “fluid and fragmented,” “less organized,” and

tend to feature formal mechanisms of political influence.16 As such, the most prominent

pathways of influence available to and used by business in the US are direct political

contributions to parties and campaigns, resources directed at lobbying in congress, and the

                                                                                                               13  Hacker  &  Pierson.  280.      14  Schneider, Ben R. 313. "Business Politics in Latin America: Patterns of Fragmentation and Centralization." The Oxford Handbook of Business and Government. Ed. David Coen, Wyn Grant, and Graham K. Wilson. Oxford: Oxford UP, 2009. 307-29. Print. 15  Schneider,  320.  16  Schneider.  308.  

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facilitation and nurturing of business-government networks. 17 The former, contributions

and lobbying, are examples of strategic instrumental power, while the latter, networks,

function as automatic instrumental power. The development and utilization of business-

government networks is characterized by the widespread political appointment of

members of the business community and the so-called ‘revolving door’ phenomenon.

The problem of establishing ex ante preferences is multifaceted and arises from at

least two sources: determining the universe and nature of actors for whom preferences are

to be ascertained, and discerning expressed from actual preferences. Business interests are

not monolithic, specific policy outcomes will favor some business actors over others, and

thus it is necessary to disaggregate the business community either by firm, sector, or

region depending on the context.18 In conditions conducive to great capital mobility, and

the prevailing of business’ structural power, business can be viewed as capital, as in the

case of multinational corporations (MNCs).19

In Hacker and Pierson’s framework, political actors’ actual preferences are never

embodied by concrete policy options. Rather, conflicting preferences are better understood

as constituting opposed ends of a preference spectrum on which concrete policy choices

are manifest. On such a view, actors may express “induced” or “strategic” preferences in

order to maximize their outcome position on the spectrum given inherent structural

limitations to influence. As such, the capacity to achieve expressed preferences by

political actors should not be taken as evidence of “great influence.”20 David Broockman

presents a typology of strategic preference misrepresentation. Two examples are: (1) that

                                                                                                               17  Schneider.  322.  18  Hacker  &  Pierson.  282.  19  Schneider.  312.  20  Hacker  &  Pierson.  283,  284.  

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actors may overstate their support for a politically feasible outcome in order that a less

undesirable outcome is reached than might otherwise be the case; and (2) that actors may

“withhold support from a policy they actually prefer over the status quo in hopes of

securing an outcome even closer to their true preference.”21

Finally, the last challenge lies in determining the presence and degree of a causal

relationship between business preferences and policy outcomes. This is problematic

because correlation between preference and outcome can arise in a number of ways and

involves myriad intervening variables. Policies might, for instance, accidentally lead to

preferred outcomes. Another possibility is that policies themselves may influence

preferences.22 This calls for care in establishing the above criteria: significant and positive

correspondence between reliable ex ante preferences, available and used pathways of

influence, and outcomes consistent with policy objectives.

The Structure and Preferences of the US Finance Industry

The financial industry is perhaps best suited for analysis as a sector due to its

limited and identifiable market activities. Skop writes that the financial services industry

in the United States is usually defined as “three rival financial services groups –

commercial banks, securities firms and investment banks, and insurance companies.”23

Since the 1999 repeal of the 1933 Glass-Steagall Act, which compartmentalized financial

activities in the economy, financial corporations have been permitted to incorporate all

                                                                                                               21  Broockman, David E. 6. "The “Problem of Preferences”: Medicare and Business Support for the Welfare State." Studies in American Political Development 26.02 (2012): 83-106. Web. 22  Hacker  &  Pierson.  285,  286.  23  Skop, Jenna. 3. "The Financial Bailout: An Examination of House Votes on the Emergency Economic Stabilization Act of 2008." Public Choice 155.3-4 (2013): 211-28. Web.

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three activities (commercial banking, investment banking, and insurance brokerage) in one

entity. The commercial banking sector of the American Banking Association and small

and medium-sized banks largely opposed the repeal of Glass-Steagall.24 Today, the US

finance sector is dominated by large, diversified financial services corporations (bank

holding companies or BHCs) like JP Morgan Chase, Wells Fargo, Citigroup, and Bank of

America. During the last two decades, their relative share of total US banking assets has

increased from 30% to over 60%, valued at over $15,000,000,000,000 ($15 trillion).25

Around 30 US bank holding companies have assets totaling more than $50,000,000,000

($50 billion) and as such are designated under the Dodd-Frank Act as “systemically

important” – ‘too-big-to-fail.’26 Too-big-to-fail status is key to the structural power of the

financial industry – government policy cannot, at minimum, allow for systemically

important banks to go under at the risk of the entire political economy suffering.

With respect to establishing an operative conception of this sector’s ex ante

preferences, it is perhaps instructive to consider both implicitly evinced preferences and

expected preferences we might induce from firms’ market position. If the assumption is

made that firms’ policy preferences align with rational considerations with respect to their

market position and expectations of other market actors, then market signals such as stock

market performance may be taken as partial indicators of firms’ preferences. Carlos

Ramirez writes that the “largest financial institutions… had the largest stake in the

outcome of [the first EESA vote].” In the September 29th stock market decline coinciding

                                                                                                               24  Stratmann, Thomas. "Can Special Interests Buy Congressional Votes? Evidence from Financial Services Legislation*." The Journal of Law and Economics 45.2 (2002): 345-73. Web. 25  Avraham, Dafna, Patricia Selvaggi, and James Vickery. "A Structural View of U.S. Bank Holding Companies." Economic Policy Review 18.2 (n.d.): 65-81. Print. 26  Labonte, Mark. "Systemically Important or “Too Big to Fail” Financial Institutions." Congressional Research Service (n.d.): n. pag. 30 June 2015. Web., 1

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with the Congress’ rejection of the first proposal, large financial institutions saw a

proportionally larger decrease in portfolio value compared to other financial firms, and the

stock market as whole, amounting to 30% of their total valuation.27 This suggests that

large financial firms would have strongly preferred a policy correcting negative market

pressure resulting from their weakened asset positions in the wake of the real estate and

financial crises. What cannot be concluded is the precise form of policy outcome most

preferred by each firm. It may be reasonably assumed, however, that as a sector, finance

preferred the TARP bailout to the status quo.

While it is difficult to compile a comprehensive overview of firm’s explicit

positions on TARP, it may be possible to infer their relative preferences from market

reactions to statements made by other actors, such as Secretary Paulson. When Paulson

announced TARP on September 19th of 2008, a number of large financial institutions saw

significant increases in their stock valuations as a result. Citigroup jumped 24%, Merrill

Lynch rose 34%, Bank of America grew 23%, AIG rose 43%, Morgan Stanley rose 21%,

Goldman Sachs rose 20%, WaMu gained 42%, and JP Morgan Chase climbed 17%.28

While perhaps a larger, less stringent bailout may have been the most preferred outcome

of some of these institutions, the market signals suggest that, insofar as firms consider

stock value, they would have preferred TARP to the status quo.

Analysis of Instrumental Mechanisms of Action

There is evidence that the US’ institutional opportunity structure allows for and

incentivizes significant use of instrumental mechanisms of influence. The finance sector

                                                                                                               27  Ramirez.  27.  28  "Stocks Surge as Feds Act." CNNMoney. Cable News Network, 19 Sept. 2008. Web. 29 June 2014.

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accounts for nearly 20 percent of total campaign contributions only through industry

related political action committees (PACs).29 According to the Center for Responsive

Politics, a total of $1.05 billion dollars was spent on lobbying by the insurance, real estate,

and financial industries 2007 and 2008.30 The following analysis of quantitative studies

employs the above theoretical framework to explore the degree of influence the finance

sector may have had on TARP’s implementation.

Skop performed a quantitative empirical study of the relationship between the

finance sector’s political contributions and the two votes taken on the EESA.

Representatives’ voting patterns were taken as the dependent variable, while the level of

campaign contributions from the finance sector, membership on the House Financial

Services Committee, and the number of constituents employed in the finance sector were

taken as the independent variables. The study considered intervening variables such as

median household income and district competitiveness.

The study found that representatives who voted yes on the first EESA proposal

received significantly more campaign donations in the 2008 election cycle from the

finance sector than representatives who rejected it. “On average, those members

supporting the bailout received $70,000 more in campaign donations from the [financial

services] industry between 2007 and 2009” (during the 2008 election cycle). 31

Membership in the House Financial Services Committee and median income showed no

significance, while district employment in finance and the representative’s ideology were

statistically significant. For changes from the first to the second round of voting that led to

                                                                                                               29  Skop.  3.  30  "Influence & Lobbying." Opensecrets. Center For Responsive Politics, n.d. Web. 29 June 2014. 31  Skop.  2.  

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the passage of the EESA, Skop found that campaign contributions did not show

significance, but that ideology and district employment in the financial sector did.32

The results of Skop’s study suggest that direct political contributions played an

important role in representative’s voting patterns on the first proposal, but not the second.

The confluence of industry preference, the opportunity for and demonstrated use of

influence pathway, and policy outcome (the appropriation of bailout funds for the

financial industry), suggest that the finance sector did influence the realization of the bank

bailout insofar as swaying some number of representatives’ votes. It should be noted that

representatives faced significant opposition from the American public, with only 22%

supporting the plan.33

Michael Dorsch performs a similar study on campaign contributions and voting

patterns in both the House of Representatives and the Senate. Dorsch found that each

additional $100,000 spent on a senator’s campaign was significantly and positively

correlated with a 15.4% increase in the probability that the senator voted for the bailout

legislation.34 This effect was found to be independent of party affiliation, but was

influenced by ideology, with more interventionist representatives supporting the bailout

irrespective of campaign contribution. Finding a similar relationship in the House,35

Dorsch concludes, “it appears that the financial bailout bill was for sale.”

With respect to the second EESA proposal in the House, it cannot be argued on the

basis of either Skop or Dorsch’ work that campaign contributions were a successful

                                                                                                               32  Skop.  8,  9.  33  Newport, Frank. "Americans Favor Congressional Action on Crisis."Americans Favor Congressional Action on Crisis. Gallup, 26 Sept. 2008. Web. 29 June 2014. 34  Dorsch, Michael. 16. "Bailouts for Sale? The Vote to save Wall Street." Public Choice 155.3-4 (2013): 211-28. Web. 35  Dorsch.  20.  

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mechanism of influence for changing enough votes to pass it. However, Carlos Ramirez

found that Political Action Committee (PAC) contributions from the finance sector to

legislators did play an explanatory role in legislator’s vote switch. This study suggests that

business associations, namely the AMA, do play a role in the US finance sector’s political

portfolio – but chiefly as an intermediary through which political contributions can be

channeled. Furthermore, the study finds that ideology (a factor found significant by Skop

and Dorsch) played a limited role in explaining voting patterns.36

Ramirez’ study design takes into consideration legislators’ “power index,” “a

variable that measures the effectiveness of a legislator in advancing an agenda” and in

mobilizing the votes of other legislators. The power index considers a number of criteria

including legislators’ seniority, committee assignments, leadership positions, indirect

influence on agenda, legislative activity and direct influence, and the amount of earmarks

the legislator is able to acquire.37 This important aspect of the study design allows for the

observation of an additional mechanism through which campaign contributions can

influence policy.38 By focusing on contributing to more ‘powerful’ legislators, actors in

the business community can influence votes and therefore policy indirectly. Ramirez

found that power weakens the influence of PAC contributions on voting record. While

influencing legislators with greater power may be a method of indirectly influencing

policy outcomes, Ramirez findings suggest that between the first and second vote,

financial PACs targeted the “cheapest” and least powerful legislators in order to directly

secure the passage of the bill.39 It is perhaps appropriate to extrapolate that the legislative

                                                                                                               36  Ramirez.  1.  37  Ramirez.  12.  38  Ramirez.  4.  39  Ramirez,  26.  

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holdouts who still did not vote for the bill tended to be those with the least to lose from

passing on contributions.

Nevertheless, the case for the finance sector’s influence on the formation and

implementation of TARP requires an examination of additional pathways of influence.

Both Skop and Thomas Stratmann note the importance of lobbying for the finance sector.

Another possible pathway of influence could be business-state networks, as many top

financial and economic officials of the executive branch were closely related to the

finance sector. Finally, the finance sector’s structural power may account for the late

change in votes, as well as the broader processes associated with TARP’s formation and

implementation.

Benjamin Blau et al.’s multivariate quantitative study on political connections of

financial firms and the bank bailout found that “politically-engaged firms were not only

more likely to receive TARP funds, but that they also received a greater amount of TARP

support and received the support earlier than firms that were not politically involved.”40

Blau et al.’s study sheds light on the availability, degree of use, and efficacy of the

lobbying and networking pathways of influence possibly used by actors in the finance

sector. Blau et al. address the methodological difficulties associated with measuring the

use of lobbying and networking by adopting proxy measures of both as indicators of what

they call “political engagement.” Firm lobbying expenditures are taken as a proxy for

political engagement via lobbying. As a proxy for networking, or the degree to which a

firm is “politically connected,” they adopt a measure of three possible conditions: (1) [that

a] firm previously employed an individual currently employed by the federal government;

(2) [that a] firm currently employs an individual that used to be employed by the federal                                                                                                                40  Blau  et  al.  1.    

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government; [and/or (3) that a] firm currently employs an individual that is concurrently

employed by the federal government.”41

Blau et al. found firms that lobbied had a “42% higher chance of receiving TARP

support than firms that did not lobby,” and those that did receive TARP support “spent up

to four times as much on lobbying as firms that did not.”42 Firms that lobbied were likely

to receive between $2.02 and $5.14 billion more in TARP support and 21.34% sooner than

firms that did not. Furthermore, “for every dollar spent on lobbying, firms received

between $485.77 and $585.65 in TARP support”43 – a considerable return on investment if

lobbying is conceived as part of a broader strategic portfolio. Politically connected firms,

or firms that had strong networks, had a “29% higher chance of receiving support than

non-connected firms.”44 Additionally, politically networked firms received between $3.08

billion and $6.47 billion more in TARP funds than non-networked firms.45 These results

strongly suggest the availability, use, and influence of the lobbying and networking

pathways of influence on the implementation of the TARP bank bailout in terms of the

distribution of funds. However, it is problematic to impute a direct link between lobbying

and networking and the formation of the policy itself, especially the change in votes

between the first and second EESA proposal.

Ran Duchin and Denis Sosyura looked at the effect of financial firms’ political

engagement on the likelihood of receiving Capital Purchasing Program (CPP – the largest

TARP facility) funds. They found that the level of networking (political connections) was

positively related to the likelihood of receiving such funds. This holds true for networks

                                                                                                               41  Blau  et  al.  1,  2.  42  Blau  et  al.  2.  43  Blau  et  al.  11.  44  Blau  et  al.  2.  45  Blau  et  al.  11.  

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extended through the Federal Reserve, finance committee in the House of Representatives,

and state-level congressional representation. The result also holds true even excluding the

largest banks. Their study also finds that banks’ lobbying expenditures, adjusted for

banks’ sizes (and therefore relative structural significance), were positively associated

with CPP investment. “One standard deviation increase in scaled lobbying amounts is

associated with an additional $10.4 million in raw CPP investment.”46 Duchin’s and

Sosyura’s study provides additional evidence both lobbying and networking were used by

financial institutions to influence the implementation of TARP to their favor.

Analysis of Structural Mechanisms of Action

Culpepper and Reinke question the role of structural power in the banking sectors’

policy negotiations with state agencies. Culpepper and Reinke conceive of structural

power as taking two forms on a dimension of agency – automatic and strategic. Automatic

structural power refers to a firm’s position in the economy and its expected behaviors

based on market rationality. If a firm has a large degree of automatic structural power,

policies will be informed by it in order to avoid disinvestment. Strategic structural power

refers to a bargaining resource, used intentionally to extract concessions from

policymakers. Its key lies in the ability and willingness of a firm to avoid jurisdictional

regulations by taking on immediate costs associated with maneuvering against the state.47

For Culpepper and Reinke, the fact that the US market was so crucial to the US financial

industry diminishes the likelihood that structural business power played a significant role

                                                                                                               46  Duchin,  Ran,  and  Denis  Sosyura.  2,  3.  "TARP  Investments:  Financials  and  Politics?"  Journal  of  Financial  Economics  106.1  (2012):  n.  pag.  Web.  47  Culpepper  &  Reinke,  432-­‐  433  

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in the formulation of TARP to the particular benefit of the financial industry’s ex ante

preferences.

For Culpepper and Reinke, the strategic instrumental flow of money from finance

into politics serves to obscure the functioning of banks’ structural power. During crises,

however, it is possible to observe the manifestation of structural power when government

action is “channeled into a discreet number of negotiations between banks and the

government over a few days” and made more empirically accessible.48 For Culpepper and

Reinke, this window for analysis is used to determine the relative structural power of US

financial institutions to those in other countries. For the purposes of this paper however,

we are precisely interested in the nature of the US financial industry’s structural power

with respect to TARP.

Culpepper and Reinke argue that the ex ante preferences of healthy US banks were

to avoid a state recapitalization; such an outcome would have a host of negative

consequences for banks such as diminished capacity in future policy negotiations and

diminished autonomy in management. While healthy UK banks were largely able to avoid

blanket state recapitalization, US banks, including the ostensibly solvent JP Morgan were

compelled to take state money through TARP. Culpepper and Reinke argue that healthy

US banks had far less structural power than their UK counterparts. The potential for

healthy UK banks to ignore regulatory threats and move their financial activities overseas

indicates that the UK financial industry is best understood as capital (in the sense of

globalized mobility) rather than firm or sector. In the US context, this article’s

understanding of the financial industry as a sector remains appropriate.

                                                                                                               48  Culpepper  &  Reinke,  433  

  18  

Perhaps Culpepper and Reinke’s findings suggest that only strategic structural

power was a minimally salient mechanism of influence for the US financial industry

during the crisis, but not automatic structural power. That is to say, perhaps the ex ante

preferences of healthy banks did not align and were overwhelmed by the economic

signaling mechanisms of their own automatic structural power. We must make an

operational distinction when approaching the US financial industry in distinguishing the

ex ante preferences of healthy and insolvent banks. While no bank may prefer a state

recapitalization to simple access to state liquidity or guarantee (as occurred in the United

Kingdom for healthy banks), it is also the case that no shareholders prefer bankruptcy to

state recapitalization.

Nevertheless, the question remains as to why the US government did not simply

recapitalize insolvent banks while engaging in a UK-style liquidity approach to the

healthy ones. The answer perhaps lies in the fact that such an approach is the most risky

and expensive for a government, and absent significant strategic structural power (as in

the case of the UK) the government will prefer state recapitalization. This is perhaps the

negative dimension for such a policy choice and it is possible that the positive impetus for

such a policy would come precisely from the automatic structural power of the banks

themselves. While individually, healthy banks may prefer, and in fact be better off without

recapitalization, the overall financial and economic threat to the economy during the time

of crisis may signal the need for policy that takes a broader perspective of the industry as a

whole. The contagion risk of too-big-to-fail banks’ collapse is much greater than that of

smaller firms.49 In other words, while a bank like JP Morgan might well have survived the

                                                                                                               49  Labonte, Mark., 4

  19  

crisis, the contagion risk of systemic failure (in fact a consequence and cause of the firm’s

automatic structural power) is too great for the government (and other elements of the

financial community) to risk not pursuing a blanket recapitalization. In this sense, the

conception of the finance industry as a sector (rather than as firm) seems to hold.

Furthermore, while an individual bank may prefer an exemption to state recapitalization to

blanket recapitalization, given the broader context of contagion risk induced and stated ex

ante preference may not align. It may in fact be the case, as signaled by the markets, that

the induced preferences of large healthy financial firms are blanket recapitalization to total

inaction when a compromise is not politically feasible.

The looming threat of ‘global economic meltdown’ led by a cascading credit

crunch was widely touted as the alternative to bailing out the banks. These sentiments are

perhaps best characterized by the somber warnings given to Congress on September 18th

of 2008 by Paulson and Bernanke that without a bank bailout “we’re literally maybe days

away from a complete meltdown of our financial system.”50 The next day, when the

preliminary plan was announced, the Dow Jones Industrial Average rose 400 points.51

When Congress rejected the first EESA proposal on September 29, the DJIA fell 778

points, representing a $1.2 trillion loss in market value.52 Such dramatic signaling from the

markets and the financial community of the costs and benefits of the plan may well likely

constitutes significant automatic structural power vis-à-vis the adoption of a bailout-type

policy.

                                                                                                               50  Herszenhorn,  David  M.  "Congressional  Leaders  Stunned  by  Warnings."Nytimes.com.  The  New  York  Times,  19  Sept.  2008.  Web.  29  June  2014.  51  "Stocks  Soar  after  Rescue  Plan  Announced."  Washingtontimes.com.  The  Washington  Times,  19  Sept.  2008.  Web.  29  June  2014.  52  Twin,  Alexandra.  "Stocks  Crushed."  CNNMoney.  Cable  News  Network,  29  Sept.  2008.  Web.  29  June  2014.  

  20  

Ramirez’ study gives additional insight into the way structural signaling

mechanisms may have affected the passage of the EESA. Ramirez found that between the

first and second EESA votes, powerful legislators were less likely to switch their votes

when financial PACs attempted to influence them. As such, intent on getting the

legislation passed, the PACS focused primarily on the “cheapest” and least powerful

legislatures. Additionally Ramirez found that there is a statistically significant relationship

between legislators’ power and immunity to economic conditions in their constituencies.53

This suggests that most legislators who switched were more likely to be influenced by

economic signals. Here we find the confluence of two types of mechanisms of influence.

The lobbying itself by financial PACs is clearly a form of strategic instrumental power. It

seems however to also be exploiting automatic structural power in the relative

susceptibility of ‘weaker’ legislators to economic signals.

Conclusion

This paper’s analysis of the several studies reviewed above suggests that the US

finance sector influenced the implementation of the TARP legislation through a variety of

pathways of influence. There is evidence that strategic instrumental mechanisms such as

political contributions and lobbying, and automatic instrumental mechanisms such as

networking were all both incentivized by the opportunity structure of the US political

system and intensively used by actors in the finance sector. Additional evidence suggests

that while strategic structural power played a limited role in the financial industry’s

engagement with the government do to its heavy dependence on US markets, automatic

structural power complemented and compounded instrumental mechanisms of influence,                                                                                                                53  Ramirez.  22.  

  21  

contextualizing their usage. The policy goals of TARP, being the recapitalization of

insolvent and troubled financial firms, seem to have been consistent with the policy’s

outcomes as well as the likely ex ante preferences of the finance sector. While a

conclusive causal relationship is difficult to draw between the finance sector’s political

engagement and TARP’s implementation, this paper finds substantial indication

suggesting this may be the case, thus warranting further study.

  22  

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