{"id":17650,"date":"2012-02-27T12:00:59","date_gmt":"2012-02-27T12:00:59","guid":{"rendered":"http:\/\/www.transcend.org\/tms\/?p=17650"},"modified":"2012-02-26T16:15:53","modified_gmt":"2012-02-26T16:15:53","slug":"how-greece-could-take-down-wall-street","status":"publish","type":"post","link":"https:\/\/www.transcend.org\/tms\/2012\/02\/how-greece-could-take-down-wall-street\/","title":{"rendered":"How Greece Could Take Down Wall Street"},"content":{"rendered":"

In an article titled \u201cStill No End to \u2018Too Big to Fail,\u2019\u201d William Greider wrote<\/a> in The Nation<\/span> on February 15th<\/sup>:<\/p>\n

Financial market cynics have assumed all along that Dodd-Frank did not end \u201ctoo big to fail\u201d but instead created a charmed circle of protected banks labeled \u201csystemically important\u201d that will not be allowed to fail, no matter how badly they behave.<\/p>\n

That may be, but there is one bit of bad behavior that Uncle Sam himself does not have the funds to underwrite: the $32 trillion market in credit default swaps (CDS). Thirty-two trillion dollars is more than twice the U.S. GDP and more than twice the national debt.<\/p>\n

CDS are a form of derivative taken out by investors as insurance against default. According to the Comptroller of the Currency, nearly 95% of the banking industry\u2019s total exposure to derivatives contracts is held by the nation\u2019s five largest banks: JPMorgan Chase, Citigroup, Bank of America, HSBC, and Goldman Sachs. The CDS market is unregulated, and there is no requirement that the \u201cinsurer\u201d actually have the funds to pay up. CDS are more like bets, and a massive loss at the casino could bring the house down.<\/p>\n

It could, at least, unless the casino is rigged. Whether a \u201ccredit event\u201d is a \u201cdefault\u201d triggering a payout is determined by the International Swaps and Derivatives Association (ISDA), and it seems that the ISDA is owned by the world\u2019s largest banks and hedge funds. That means the house determines whether the house has to pay.<\/p>\n

The Houses of Morgan, Goldman and the other Big Five are justifiably worried right now, because an \u201cevent of default\u201d declared on European sovereign debt could jeopardize their $32 trillion derivatives scheme. According to Rudy Avizius in an article<\/a> on The Market Oracle (UK)<\/span> on February 15th<\/sup>, that explains what happened at MF Global, and why the 50% Greek bond write-down was not declared an event of default.<\/p>\n

If you paid only 50% of your mortgage every month, these same banks would quickly declare you in default. But the rules are quite different when the banks are the insurers underwriting the deal.<\/p>\n

MF Global: Canary in the Coal Mine?<\/strong><\/p>\n

MF Global<\/a> was a major global financial derivatives broker until it met its unseemly demise on October 30, 2011, when it filed the eighth-largest U.S. bankruptcy after reporting a \u201cmaterial shortfall\u201d of hundreds of millions of dollars in segregated customer funds. The brokerage used a large number of complex and controversial repurchase agreements, or \u201crepos,\u201d for funding and for leveraging profit. Among its losing bets was something described as a wrong-way $6.3 billion trade the brokerage made on its own behalf on bonds of some of Europe\u2019s most indebted nations.<\/p>\n

Avizius writes:<\/p>\n

[A]n agreement was reached in Europe that investors would have to take a write-down of 50% on Greek Bond debt. Now MF Global was leveraged anywhere from 40 to 1, to 80 to 1 depending on whose figures you believe. Let\u2019s assume that MF Global was leveraged 40 to 1, this means that they could not even absorb a small 3% loss, so when the \u201chaircut\u201d of 50% was agreed to, MF Global was finished. It tried to stem its losses by criminally dipping into segregated client accounts, and we all know how that ended with clients losing their money. . . .<\/p>\n

However, MF Global thought that they had risk-free speculation because they had bought these CDS from these big banks to protect themselves in case their bets on European Debt went bad. MF Global should have been protected by its CDS, but since the ISDA would not declare the Greek \u201ccredit event\u201d to be a default, MF Global could not cover its losses, causing its collapse.<\/p>\n

The house won because it was able to define what \u201c winning\u201d was. But what happens when Greece or another country simply walks away and refuses to pay? That is hardly a \u201chaircut.\u201d It is a decapitation. The asset is in rigor mortis. By no dictionary definition could it not qualify as a \u201cdefault.\u201d<\/p>\n

That sort of definitive Greek default is thought by some analysts to be quite likely, and to be coming soon. Dr. Irwin Stelzer, a senior fellow and director of Hudson Institute\u2019s economic policy studies group, was quoted<\/a> in Saturday\u2019s Yorkshire Post (UK)<\/span> as saying:<\/p>\n

It\u2019s only a matter of time before they go bankrupt. They are bankrupt now, it\u2019s only a question of how you recognise it and what you call it.<\/p>\n

Certainly they will default . . . maybe as early as March. If I were them I\u2019d get out [of the euro].<\/p>\n

The Midas Touch Gone Bad<\/strong><\/p>\n

In an article in The Observer (UK)<\/span> on February 11th <\/sup>titled \u201cThe Mathematical Equation That Caused the Banks to Crash<\/a>,\u201d Ian Stewart wrote of the Black-Scholes equation that opened up the world of derivatives:<\/p>\n

The financial sector called it the Midas Formula and saw it as a recipe for making everything turn to gold. But the markets forgot how the story of King Midas ended.<\/p>\n

As Aristotle told this ancient Greek tale, Midas died of hunger as a result of his vain prayer for the golden touch. Today, the Greek people are going hungry to protect a rigged $32 trillion Wall Street casino. Avizius writes:<\/p>\n

The money made by selling these derivatives is directly responsible for the huge profits and bonuses we now see on Wall Street. The money masters have reaped obscene profits from this scheme, but now they live in fear that it will all unravel and the gravy train will end. What these banks have done is to leverage the system to such an extreme, that the entire house of cards is threatened by a small country of only 11 million people. Greece could bring the entire world economy down. If a default was declared, the resulting payouts would start a chain reaction that would cause widespread worldwide bank failures, making the Lehman collapse look small by comparison.<\/p>\n

Some observers question whether a Greek default would be that bad. According to a comment<\/a> on Forbes<\/span> on October 10, 2011:<\/p>\n

[T]he gross notional value of Greek CDS contracts as of last week was \u20ac54.34 billion, according to the latest report from data repository Depository Trust & Clearing Corporation (DTCC). DTCC is able to undertake internal netting analysis due to having data on essentially all of the CDS market. And it reported that the net losses would be an order of magnitude lower, with the maximum amount of funds that would move from one bank to another in connection with the settlement of CDS claims in a default being just \u20ac2.68 billion, total. If DTCC\u2019s analysis is correct, the CDS market for Greek debt would not much magnify the consequences of a Greek default\u2014unless it stimulated contagion that affected other European countries.<\/p>\n

It is the \u201ccontagion,\u201d however, that seems to be the concern. Players who have hedged their bets by betting both ways cannot collect on their winning bets; and that means they cannot afford to pay their losing bets, causing other players to also default on their bets. The dominos go down in a cascade of cross-defaults that infects the whole banking industry and jeopardizes the global pyramid scheme. The potential for this sort of nuclear reaction was what prompted billionaire investor Warren Buffett to call derivatives \u201cweapons of financial mass destruction.\u201d It is also why the banking system cannot let a major derivatives player\u2014such as Bear Stearns or Lehman Brothers\u2014go down. What is in jeopardy is the derivatives scheme itself. According to an article<\/a> in The Wall Street Journal<\/span> on January 20th<\/sup>:<\/p>\n

Hanging in the balance is the reputation of CDS as an instrument for hedgers and speculators\u2014a $32.4 trillion market as of June last year; the value that may be assigned to sovereign debt, and $2.9 trillion of sovereign CDS, if the protection isn\u2019t seen as reliable in eliciting payouts; as well as the impact a messy Greek default could have on the global banking system.<\/p>\n

Players in the future may simply refuse to play. When the house is so obviously rigged, the legitimacy of the whole CDS scheme is called into question. As MF Global found out the hard way, there is no such thing as \u201crisk-free speculation\u201d protected with derivatives.<\/p>\n

____________________<\/p>\n

Ellen Brown is an attorney\u00a0and president of the Public Banking Institute, http:\/\/PublicBankingInstitute.org<\/strong><\/a>. In\u00a0Web of Debt<\/span>, her latest of eleven books, she shows how a private cartel has usurped the power to create money from the people themselves, and how we the people can get it back.\u00a0<\/em><\/p>\n

Go to Original \u2013 webofdebt.com<\/a><\/p>\n","protected":false},"excerpt":{"rendered":"

The Houses of Morgan, Goldman and the other Big Five are justifiably worried right now, because an \u201cevent of default\u201d declared on European sovereign debt could jeopardize their $32 trillion derivatives scheme. According to Rudy Avizius in an article on The Market Oracle (UK) on February 15th, that explains what happened at MF Global, and why the 50% Greek bond write-down was not declared an event of default.<\/p>\n","protected":false},"author":4,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[48],"tags":[],"class_list":["post-17650","post","type-post","status-publish","format-standard","hentry","category-in-focus"],"_links":{"self":[{"href":"https:\/\/www.transcend.org\/tms\/wp-json\/wp\/v2\/posts\/17650","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.transcend.org\/tms\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.transcend.org\/tms\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.transcend.org\/tms\/wp-json\/wp\/v2\/users\/4"}],"replies":[{"embeddable":true,"href":"https:\/\/www.transcend.org\/tms\/wp-json\/wp\/v2\/comments?post=17650"}],"version-history":[{"count":0,"href":"https:\/\/www.transcend.org\/tms\/wp-json\/wp\/v2\/posts\/17650\/revisions"}],"wp:attachment":[{"href":"https:\/\/www.transcend.org\/tms\/wp-json\/wp\/v2\/media?parent=17650"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.transcend.org\/tms\/wp-json\/wp\/v2\/categories?post=17650"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.transcend.org\/tms\/wp-json\/wp\/v2\/tags?post=17650"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}