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View Full Version : The Dirty Secret of the Financial Crisis: Our Banking System's Broken



mick silver
24th November 2008, 08:52
Henry Paulson's $700 billion plan to save the world is dead or dying, but the bailout was not killed by his arrogance or his grossly misleading claims about what the public's money would buy. The plan collapsed because it didn't work. The Treasury secretary has launched a PR offensive to revive his falling influence. Too late. The Democrats should be equally embarrassed. In September their leaders in Congress rushed to embrace the Paulson solution, no hard questions asked. They now claim they were duped.


Paulson's squad at Treasury pumped $250 billion into the largest banks, buying their stock at inflated prices on the assumption it would persuade investors to step forward with their capital too. Instead, savvy financial players realized Paulson was spitting into a high wind, trying to save a system with stout talk.

Here is the ugly, unofficial truth that neither Wall Street nor the government will acknowledge: the pinnacle of the US financial system is broke -- with perhaps $2 trillion in rotten financial assets on the books. Nobody knows, exactly. The bankers won't say, and regulators won't ask, or at least don't dare tell the public. Official silence naturally feeds the conviction that banking's problems are far worse than we've been told. The Levy Economics Institute of Bard College puts it plainly: "It is probable that many and perhaps most financial institutions are insolvent today -- with a black hole of negative net worth that would swallow Paulson's entire $700 billion in one gulp."

The scale of this disaster explains why the Treasury secretary had to abandon his original plan to buy up failed mortgages and other bad assets from the banks. If government paid the true value for these nearly worthless assets, the banks would have to write down huge losses or, as Levy economists put it, "announce to the world that they are insolvent." On the other hand, if Paulson pumps the purchase price high enough to protect the banks from losses, $700 billion "will buy only a tiny fraction of the 'troubled' assets."

http://www.alternet.org/workplace/108138/the_dirty_secret_of_the_financial_crisis%3A_our_ba nking_system%27s_broken/

JoeSixPack
24th November 2008, 13:51
The derivative's bubble is $1/2-1 Quadrillion notional.

www.JoeSixPack.me

prahudka
24th November 2008, 14:26
The scale of this disaster explains why the Treasury secretary had to abandon his original plan to buy up failed mortgages and other bad assets from the banks. If government paid the true value for these nearly worthless assets, the banks would have to write down huge losses or, as Levy economists put it, "announce to the world that they are insolvent." On the other hand, if Paulson pumps the purchase price high enough to protect the banks from losses, $700 billion "will buy only a tiny fraction of the 'troubled' assets."


What disaster? If the goal is to swap bucks for another currency (Amero or whatever), then the buck has already been abandoned and it has been decided to kill, stuff and mount the almighty dollar. This bailout stuff is all just more burning and clamour of the Raj's servants use to drive and corner the tiger while he is hunted. If the buck is to be swapped for another currency, what exactly matters here? Inflating the supply of bucks and inflating debt is a precursor to a reshuffled deck. This is not a market at this level.

mizou
24th November 2008, 18:32
Re: Our banking System is broken.
I received this quite lengthy article this morning from a free subcription by Martin D. Weiss, Ph.D from his moneyandmarkets.com.
It talks about Citibank's current situation and exposure to the derivatives. I thought that this article offers a step by step explanation of citibank's exposure, JP Morgan etc... and the possible consequences (One can also deduce the consequences for both Silver & Gold markets)

Mizou

..........To better understand how all this works, consider a gambler who goes to Las Vegas. He wants to try his luck on the roulette wheel, but he also wants to play it safe. So instead of betting on a few random numbers, he places some bets on the red, some on the black; or some on the even and some on the odd. He rarely wins more than a fraction of what he’s betting, but he rarely loses more than a fraction either. That’s similar to what banks like Citigroup do with derivatives, except for a couple of key differences:

Difference #1. They don’t bet against the house. In fact, there is no house to bet against. Instead, they bet against the equivalent of other players around the table.

Difference #2. Although they do balance their bets, they do not necessarily do so with the same player. So back to the roulette metaphor, if Citigroup bets on the red against one player, it may bet on the black against another player. Overall, its bets are balanced and hedged. But with each individual player, they’re not balanced at all.

Difference #3. As I said, the amounts are huge — millions of times larger than all of the casinos of the world put together.
Now, here are the urgent questions that, as of today, remain largely unanswered:

Question #1. What happens if there is an unexpected collapse?
Question #2. What happens if that collapse is so severe it drives some of the key players into bankruptcy?
Question #3. Most important, what happens if these players can’t pay up on their gambling debts?

..... What Is a Banking Meltdown And Why Is it Possible?
On October 11, 2008, a single statement hit the international wire services that provides more specific clues:
“Intensifying solvency concerns about a number of the largest U.S.-based and European financial institutions have pushed the global financial system to the brink of systemic meltdown.”This statement was not the random rant of a gloom-and-doomer on the fringe of society. Nor was it excerpted from a twentieth century history book about the Great Depression. It was the serious, objective assessment announced at a Washington, D.C. press conference by the Managing Director of the International Monetary Fund (IMF).

The unmistakable implication: So many of the world’s largest banks were so close to bankruptcy, the entire banking system was vulnerable to a massive collapse. The primary underlying cause: Derivatives.
The Mafia knows all about systemic meltdowns of gambling networks. In the numbers racket, for example, players place their bets through a bookie, who, in turn is part of an intricate network of bookies. Most of the time, the system works. But if just one big player fails to pay bookie A, that bookie might be forced to renege on bookie B, who, in turn stiffs bookie C, causing a chain reaction of payment failures.

The bookies go bankrupt. The losers lose. And even the winners get nothing. Worst of all, players counting on winnings from one side of their bets to cover losses in offsetting bets are also wiped out. The whole network crumbles — a systemic meltdown.

To avert this kind of a disaster, the Mafia henchmen know exactly what they have to do, and they do it swiftly: If a gambler fails to pay once, he could find himself with broken bones in a dark alley; twice, and he could wind up in cement boots at the bottom of the East River.

Unlike the Mafia, established stock and commodity exchanges, like the NYSE and the Chicago Board of Trade, are entirely legal. But like the Mafia, they understand these dangers and have strict enforcement procedures to prevent them. When you want to purchase 100 shares of Microsoft, for example, you never buy directly from the seller. You must always go through a brokerage firm, which, in turn is a member in good standing of the exchange. The brokerage firm must keep close tabs on all its customers, and the exchange keeps close track of all its member firms. If you can’t come up with the money to pay for your shares, the broker is required to promptly liquidate your securities, literally kicking you out of the game. And if the brokerage firm as a whole runs into financial trouble, it meets a similar fate with the exchange. Very, very swiftly!

Here’s the key: For the most part, the global derivatives market has no brokerage, no exchange, and no equivalent enforcement mechanism. In fact, among the $181.2 trillion in derivative bets held by U.S. banks at mid-year 2008, only $8.2 trillion, or 4.5%, was regulated by an exchange. The balance — $173.9 trillion, or 95.5% — was bets placed directly between buyer and seller (called “over the counter”). And among the $596 trillion in global derivatives tracked by the BIS at year-end 2007, 100% were over the counter. No exchanges. No overarching enforcement mechanism.

This is not just a matter of weak or non-existent regulation. It’s far worse. It’s the equivalent of an undisciplined conglomeration of players gambling on the streets without even a casino to maintain order. Moreover, the data compiled by the OCC and BIS showed that the bets were so large and the gambling so far beyond the reach of regulators, all it would take was the bankruptcy of one of the lesser derivatives players — such as Lehman Brothers — to throw the world’s credit markets into paralysis.
That’s why the world’s highest banking officials were so panicked when Lehman Brothers failed in the fall of 2008. As the IMF managing director himself admitted, the threat was not stemming from just one bank in trouble; it was from many; and those banks weren’t lesser players; they were among the largest in the world.

Which U.S. banks placed the biggest bets? Based on mid-year 2008 data, the OCC provided some answers:

Citibank N.A., the primary banking unit of Citigroup, held $37.1 trillion in derivative bets. Moreover, only 1.7% of those bets were under the purview of any exchange. The balance — 98.3% — was direct, one-on-one bets with their trading partners outside of any exchange.

Bank of America was a somewhat bigger player, holding $39.7 trillion in derivative bets, with 93.4% traded outside of any exchange.

But JPMorgan Chase was, by far, the biggest of them all, towering over the U.S. derivatives market with more than double BofA’s book of bets — $91.3 trillion worth.

This meant that JPMorgan Chase controlled half of all derivatives in the U.S. banking system — a virtual monopoly that tied the firm’s finances with the fate of the U.S. economy far beyond anything ever witnessed in modern history. Meanwhile, $87.3 trillion, or 95.7% of Morgan’s derivatives, were outside the purview of any exchange.

One bank! Making bets of unknown nature and risk! Involving a dollar amount equivalent to six years of the total production of the entire U.S. economy! In contrast, Lehman Brothers, whose failure caused such a large earthquake in the global financial system, was actually small by comparison — with “only” $7.1 trillion in derivatives.

The potential havoc that might be caused by a Citigroup failure, with bets that involve five times more money than Lehman’s — and the financial holocaust that might be caused by a JPMorgan failure with close to 13 times more than Lehman — boggles the imagination. How bad could it actually be? No one knows, and therein lies one of the primary dangers. In the absence of oversight, the regulators simply do not collect the needed who-when-what information on these bets.

In an attempt to throw some light on this dark-but-explosive scene, the OCC uses a formula for estimating how much risk each major bank is exposed to in just the one particular aspect I cited a moment ago — the risk that some of its trading partners might default and fail to pay up on their gambling debts. Bear in mind: We still don’t now how much they are risking on market moves against them. All the OCC is estimating is how much they’re risking by making bets with potentially shaky betting partners, regardless of the outcome on each bet — win, lose or draw.

At Bank of America, the OCC calculated that, at mid-year, the bank was exposed to the tune of 194.3% of its capital. In other words, for every $1 of capital in the kitty, BofA was risking $1.94 cents strictly on the promises made by its betting partners. If about half of its betting partners defaulted, the bank’s capital would be wiped out and it would be bankrupt. And remember: This was in addition to the risk that the market might go the wrong way, and on top of the risk it was taking with its other investments and loans,

At Citibank, the risk was even greater: $2.58 cents in exposure per dollar of capital.
JPMorgan Chase: For every dollar of capital, the bank was risking $4.30 on the credit of its betting partners.

For the complete article, go directly to http://www.moneyandmarkets.com/warning-global-banking-shutdown-possible-7-28271

research24
24th November 2008, 20:29
BAnking system is busted? Gee, whodathunkit?

JoeSixPack
24th November 2008, 20:31
Add to the list of banks, GE Finance. Not sure about now, but I think in the 90s they were a huge derivatives player.