WASHINGTON — Federal Reserve Chairman Ben Bernanke on Thursday said that the central bank is examining investment titan Goldman Sachs' use of exotic financial instruments to profit from the deepening debt problems of Greece and other European nations.
A separate Securities and Exchange Commission inquiry into the "destabilizing effects" of Wall Street's use of derivatives also appears certain to include Goldman's dealings.
The revelations came as Democratic Sen. Christopher Dodd of Connecticut, the chairman of the Senate Banking Committee, questioned Bernanke during a hearing on monetary policy. Bernanke said that Goldman and other banks are being looked at for their use of insurance-like contracts called credit-default swaps to profit when foreign governments slide toward defaulting on their debt.
Investors used these swaps, which were like gasoline on fire during the near meltdown of U.S. financial markets in September 2008, to hedge against the risk of losses from a debt default. For countries such as Greece, however, they also raised borrowing costs, making it harder to prevent a default.
"Since there is no requirement that purchasers of credit default swaps actually own any of the underlying debt, we have a situation in which major financial institutions are amplifying a public crisis for what would appear to be ... private gain," Dodd told Bernanke. "I want to ask you here whether or not you think there ought to be limits on the use of credit default swaps to prevent the intentional creation of runs against governments."
"I just want to say first of all that we are looking into a number of questions related to Goldman Sachs and other companies and their derivatives arrangements with Greece and on this issue as well," said Bernanke, who's attempting to show Congress that the central bank can be an effective regulator.
"Using these instruments in a way that intentionally destabilizes a company or a country is — is counterproductive, and I'm sure the SEC will be looking into that," he said. "We'll certainly be evaluating what we can learn from the activities of the holding companies that we supervise here in the U.S."
Goldman is under fire because of disclosures, initially in the German magazine Der Spiegel, that it used another derivatives product, called currency swaps, to help Greece hide the size of its debt, and then allegedly used credit-default swaps to bet that the country would default.
Goldman spokesman Michael DuVally said Thursday that Goldman managing director Gerald Corrigan notified the regulatory agency Eurostat "in principle" of the firm's plans to assist an unidentified European government with currency swaps before executing the transactions and received no objection.
Published reports have quoted Eurostat, based in Luxembourg, as saying that it was unaware of Greece's arrangement with Goldman.
DuVally denied that the firm's bets comprised a major portion of the outstanding swap bets on Greece's debt, a figure that stood at $84.8 billion in February, according to data from the Depository Trust & Clearing Corp., which monitors the private, unregulated trades.
"Conspiracy theories or reports that suggest Goldman Sachs is engaged in trading activities to massively short Greece's sovereign debt are misguided and just plain wrong," DuVally said.
Sylvain Raynes, a frequent Goldman critic who's an expert on swaps, said that by assisting Greece in hiding its debt, Goldman behaved like the family of an alcoholic concealing his addiction while simultaneously obtaining "inside information on what's going to happen."
Raynes, who worked briefly for Goldman, called the Greece episode "a repeat of Goldman betting against its customers" in the subprime mortgage market while becoming the only major Wall Street firm to make a tidy exit before the U.S. housing crash.
McClatchy first reported in November that Goldman had sold more than $40 billion in risky mortgage securities in 2006 and 2007 while secretly betting that a sharp downturn in the housing market would cause their value to plummet.