Our “first MBA president” took to the airwaves again this morning to try to shore up the still-sagging confidence of Americans in the country’s financial system. Once again, his performance failed to reassure.
I wanted to hear still-President Bush say, credibly, things like the following:
- * I understand how much this crisis and the uncertainty it has engendered are hurting you (the citizens), and I am very sorry that this happened on my watch.
* We shall be conducting very thorough investigations into the causes of the current crisis, in order to learn how to avoid a recurrence by enacting new ways to regulate our financial system, and to punish any whose illegal financial manipulations helped spur the crisis.
* We all need to understand that, as a nation, we are in this crisis together. Its effects will most likely get worse before they get better. I promise that I will work with congress and the state authorities to make sure that, together, we can help the most vulnerable of our fellow-citizens to weather this storm.
He did not say those things. Toward the end, he did admit that, “This is an anxious time.” But he tripped hurriedly over the words as though he wasn’t happy saying them.
Also, he stated the cause and nature of the crisis in a decidedly incomplete and misleading way. Here’s what he said:
- The fundamental problem is this: As the housing market has declined, banks holding assets related to home mortgages have suffered serious losses. As a result of these losses, many banks lack the capital or the confidence in each other to make new loans…
Yes, it is true that the sub-prime mortgage problem underlay and helped precipitate the crisis. But the problem of mortgage defaults has been exponentially exacerbated by the fact that, atop those mortgages, had been erected that entire, extravagant but as it turns out very flimsy “house of cards” of CDOs, MBSs, CDSs, and other financial derivatives so very “fancy” that it is hard to connect any one of them with a particular heap of bricks and mortar, hard to figure out who owes what to whom, hard to figure out what, actually, any of these gigantic financial institutions is actually “worth” today.
It was the rush toward dergeulation of the financial markets over the past ten years that both (a) allowed (and very soon thereafter, actually encouraged) those sub-prime mortgages to be written for basically unqualified lenders, and then (b) allowed (and very soon thereafter, actually encouraged) the erection on top of all mortgages, both prime and sub-prime, of all those balloonish and increasingly indecipherable financial derivatives.
The problem, President Bush, was not the sub-prime mortgages on their own. It was the atmosphere of deregulation in which they proliferated– an atmosphere in which virtually all major US financial institutions, including those with long previous records of conservative dealings, became involved in a massive and quite unregulated game of chance.
So the whole financial system of the US and its “western” allies is in deep crisis.
Willem Buiter, the former chief economist for the European Bank for Reconstruction and Development, has a blog post today titled “Dead bank walking.” In it he surveys the various measures that the different western governments have enacted to date, to try to stem the crisis…
Then he comments,
- I believe that none of this may be enough and that the nationalisation of the banking sectors in the North Atlantic area is likely to be required if confidence is to be restored anytime soon. This majority ownership by the state of all systemically important banks and near-banks should be seen as a temporary measure, although certain institutions or classes of institutions may remain in state ownership for the indefinite future…
Are Bush and his advisers prepared to consider a measure as radical– but perhaps as necessary– as this?
“It was the atmosphere of deregulation in which they proliferated– an atmosphere in which virtually all major US financial institutions, including those with long previous records of conservative dealings, became involved in a massive and quite unregulated game of chance.”
This is not an “atmosphere”. It is the _actual_ lack of laws crafted to deal with these transactions and “products.”
You might exchange “atmosphere” for “philosophical underpinnings.” It has been the conservative philosophy of laissez faire, absolute minimal government interference in the “free” market, that led to the _absence_ of laws to regulate risky market transactions.
Lucie, you’re quite right about it being more than an “atmosphere.” What’s more, it’s not just that regulations were not enacted– but much worse: the existing whole sets of regulations, some of which had been put in place precisely in response to the crash of 1929-31, were systematically and quite intentionally abolished.
Phil Gramm was a big player in that. (As in, the Gramm-Leach-Bliley Act of 1999.) But many Dems– both in the Clinton White House and in congress also went along.
Robert Rubin anyone?
Also of note: Richard Holbrooke has been a Director in good standing of AIG for many years now. Let’s hope that fact alone is enough to disqualify him from being Pres. Obama’s Sec. of State??
Helena, you write:
CDOs, MBSs, CDSs, and other financial derivatives
Collateralize Debt Obligations like Mortgage Backed Securities are not “derivatives”. They hold the real value of the underlying assets.
To buy a CDO or MBS will cost you the real value of the underlying stuff, i.e. the present value of all the payments those mortgage borrowers will make in the future.
Credit Default Swaps are real derivatives. The derive their value from the change in value of real asset.
Their value does not depend on the underlying asset but on the change in the value of the underlying asset.
A derivative on crude oil may change up 200% when the real crude price goes down 1%. A derivative may go up 300% when the underlying asset goes up 2%.
One needs little money to buy or sell derivatives on huge real value moves. That’s why they exploded. A fast way to make money on small moves – if you are right.
Thanks for the insightful posts. Figuring out derivatives brings on the same numbing of the mind as college calculus. But, we are in the middle of a historic Panic. The NY Times spelled it out today “Wall Street spent most of the Bush years trafficking in bad debt”.
The money churn spun off commissions for the masters of the universe. The problem isn’t the secularized mortgages. If there is money coming in, there will be accurate tracking. The problem is the up to 54 trillion dollars in bets placed on the expectation of continuing rising prices with no collateral. This money is gone; vanished. Credit markets are frozen and will remain frozen until lenders know what is on the books and can trust again.
Dumping money into the banks by itself is not enough. The only way is to nationalize all the banks. Wipe the bad debt off the books. Start anew and enforce transparency.
“What’s more, it’s not just that regulations were not enacted– but much worse: the existing whole sets of regulations, some of which had been put in place precisely in response to the crash of 1929-31, were systematically and quite intentionally abolished.”
Excellent point, of course. The philosophy of “free market” caused both deliberate action and inaction with respect to responsible legislation.
…and they are not conservatives either. They are narrow minded idealists with a utopian faith in what they regard as the “market” but which is, in essence, nothing more than a conviction that aggression is “natural” behaviour. And that society can never be more than a chain gang in which the weak are devoured by the powerful.
err synthetic and hybrid cdos causing lehman and aig such grief *are* made of credit default swaps and are indeed derivatives.
of course so are fx and eurodollar swaps –trillions traded daily –everybody run!!
Pakistan’s Nuclear Weapons, Sebastapol and the Tenguiz Field on eBay anyone?
http://tinyurl.com/49jrnj
The joke doing the rounds in the UK is “What is the capital of Iceland” “Oh about four pounds twenty six pence”
Pakistan’s Nuclear Weapons, Sebastapol and the Tenguiz Field on eBay anyone?
http://tinyurl.com/49jrnj
The joke doing the rounds in the UK is “What is the capital of Iceland” “Oh about four pounds twenty six pence”
While US economy going down and more troubles ahead for US economy, It’s very surprising that state lived and supported by donations and loan meanly from US and others have this to say:
lucie13
This is not an “atmosphere”. It is the _actual_ lack of laws crafted to deal with these transactions and “products.”
Video in their own words Covering up the Fannie Mae, Freddie Mac Scam that caused our Economic Crisis?
Helena,whole sets of regulations, some of which had been put in place precisely in response to the crash of 1929-31
Yes that right Helena, but US which have experiences to get out of that hard time, will do so in mean time although its hard to all but it needs time to go through safely again may be just like in the crash of 1929-31
Scary numbers here.
http://tinyurl.com/5x86qo
The insurers have two weeks to come up with the cash.
Ouch!!
`It has been the conservative philosophy of laissez faire, absolute minimal government interference in the “free” market, that led to the _absence_ of laws to regulate risky market transactions.`
actually regulation has spawned more derivative trading than any `natural`economic risk. eg
http://ftalphaville.ft.com/blog/2008/10/01/16559/aig-and-an-overlevered-europe/?source=rss
lets not forget that the largest mortgage backed traders were government spawned and supervised creations fannie and freddie. and that without a government subsidy on mortgage interest there would be no housing bubble at all.
governments don`t do any better a job than markets to promote basic responsibility.
Contradicting Vadim’s assertions that this is an open and transparent market where everybody knows who owes what, the New York Times reported today: “But even now, the total amount coming due is unknown because the market for credit-default swaps is not regulated or tracked through any clearinghouse of data. “The huge value of credit-default swaps on Lehman Brothers, and the low price obtained in this auction, mean there are billions of dollars in obligations,” said Eric R. Dinallo, the New York State insurance superintendent. “No one knows who owes this money, how much each counterparty owes, or whether any of these counterparties will now be in trouble themselves, with further potential problems for the financial markets.”
Further, “Market participants were expressing particular concern about the amount of money that the American International Group, the insurance giant that was effectively nationalized, would have to pay as it settled its swap positions on Lehman Brothers’ debt. A.I.G.’s financial products unit was a major issuer of credit-default swaps.
A spokesman for A.I.G., Nicholas J. Ashooh, said on Friday that the big insurer was not able to provide a figure.”
Clearly, this is a shadow banking system, designed to hide risks from investors in financial insitutions. Regulations did not cause these institutions to go into a shadow system–they chose to do it themselves.
http://www.nytimes.com/2008/10/11/business/11credit.html?_r=1&ref=business&oref=slogin
What amazes me is that the Paulson/Bernanke cabale is directing failed banks into the “safe harbor” of the Big Three (JPM Chase, BofA and Citibank). Turns out the Big Three are among the most exposed of US financial institutions, JPM Chase having 66x their assets in derivatives, BofA and Citibank, 30x!
http://georgewashington2.blogspot.com/2008/10/whos-got-biggest-derivatives-exposure.html
Looks to me like Paulson/Bernanke are determined to reward the most reckless! This would be consistent with Bush administration practice in most areas.
I should have said that the Paulson/Bernanke cabale is steering insolvent financial institutions ONLY into the ‘safe harbor’ of the Big Three.
Interesting that JPM Chase released estimates of European banks’ exposure to Lehman (2Q data), but there are still no estimates of JPM Chase’s own exposure.
http://www.ft.com/cms/s/0/52098fa2-82e3-11dd-907e-000077b07658.html?nclick_check=1
Either they do not yet know what they owe (2Q data missing?), or they want to hide it from investors until they have their capital secured (bailout?)
“Contradicting Vadim’s assertions that .. everybody knows who owes what, ”
not what i said!!
John, why dont you read a book on these things before offering us more 2nd hand views from the New York times? Sice when do you trust their judgement?? Or at least read the parts of Basel II that talk about credit default swaps?? until ou do that you will never understand why european banks like them so much.
We are about to find out if Vadim was correct in asserting that most CDS are “offsetting.”
http://georgewashington2.blogspot.com/2008/10/next-derivatives-bloodbath-insurance.html
JohnH , all swaps are offsetting, and so are all futures and all options and everything else called a derivative. They aren’t assets, they only shuffle risks around. By definition they are zero sum. No value to any economy can be lost or gained through them, since in sum they don’t appreciate. Any money lost on a swap mandatorily is gained by someone else. Simple, eh?
Can they be used to conceal risk? Yes. And to hide real capital losses. But so can more conventional agreements. Banning cdses – if this were even possible which I doubt- won’t undo the capital losses underpinning this crisis. It won’t make regulators more astute, or bankers more responsible. It won’t rid the us homeowner of his addiction to cheap credit flowing from the biggest casino going – the housing market!! It won’t tame the appetite for idiotic structured debt tailor made to get by regulators, our presumptive saviors.