Financial sector shenanigans- Derivatives and other games.

by Ginosar  

The financial world has immense and almost final say on any significant effort to curtail Global Warming.

Without the willingness of financial markets to provide funds at reasonable costs, little can be accomplished.

So lets look at some dark corners of the financial market - derivatives and the power to control our government and Congress. Why, because derivatives, to a significant extent, added to and complicated the global financial decline we are going through now.

During our current financial trouble it is very hard to raise significant funds to build the exceedingly capital-intensive alternative-energy fields. We are talking about tens of trillions. Several trillions a year, as a minimum, to make the major changes needed. And very large financial institutions are needed to raise this level of capital.

My purpose, partially, is to show you why both the US administration and Congress are very reluctant to do any thing meaningful to control, to set some meaningful limits, on LARGE financial institutions. Or, saying it another way, our financial world determines to what extent our political system will operate to mainly benefit themselves vs. benefiting them and our society.

We are at their mercy. And their arrogance is huge, as was shown clearly on several special PBS FRONTLINE programs.

And I guarantee to you that their self- interest is by far larger than any national interest.

Some history:

The financial sector was about 6% of the US GDP a quarter of a century ago. But as president Reagan and the Republican party destroyed much of the governmental supervision and control of  the financial markets, three major things occurred.

First, a major tax cut for the 5% upper income earners shifted some $750 billions for the US Treasury to the wealthy, increasing our national deficit.

Second, we got the collapse of the Saving & Loan that costs the Treasury some $350 to $500 billions. Remember that all of these sums are in the old, much more valuable dollar, more than  twice current value!

Third: the financial sector was freed to invent all kind of new tools to increase its business and profits and grew to 20% of U.S. GDP!

That means that one fifth of our economy is involved in shifting money around, from one institution to another. Some shifting around, loans, are obviously necessary for the functioning of the economy. But this huge sector, to a large extent, does not create real wealth, it does not build houses, does not build ships,  it collects money, fees, interests, chargers, some of it illegally off- shore, to make that sector operators' very rich. Operating off-shore as Goldman- Sacks, an American corporation, did with its financial packages, is to bypass legal "constrains" in the US.

While this shifting of "non-existing" funds is going on, the financial institution takes its cut, both for arranging the deal, and also interest on the outstanding loans. Try to understand, non-existing funds means that when normal banks operate within the law, for example making small business loans, they have the legal right to loan out up to 15 times their capital. In the last decade, the loans extended by many of the massive financial institutions like City Bank, Goldman Sacks, Bank America, where 50 times or more of their capital. Which is highly leveraged, and thus risky. A small misfortune would drain their total assets trying to cover losses.


To increase their income they resorted also to derivatives,  a highly complicated tool that is a very unique and specialized financial agreement, that people even in the financial sector, do not grasp much.

A derivative can be thought as: "derived from". Basically, it relates to some financial transaction.

"We didn't truly know the dangers of the market, because it was a dark market," says Brooksley Born, the head of an obscure federal regulatory agency - the Commodity Futures Trading Commission (CFTC) - who not only warned of the potential for economic meltdown in the late 1990s, but also tried to convince the country's key economic powerbrokers to take actions that could have helped avert the crisis. "They were totally opposed to it," Born says. "That puzzled me. What was it that was in this market that had to be hidden?" PBS.

Why? The "regulators" were part of the brotherhood of the financial industry. Many in Congress were their beneficiaries.

It is so complicated that a 7/6/09 Fortune article said:


And in the summary:


Now they could risk any amounts with limited if any risk - these "wise people" of the financial world believed.

According to a chart in that Fortune issue the total derivative outstanding in 2008 was some

600 Trillion dollars!

Again, six hundred trillions. The total global GDP then was about $45 trillions. That means that outstanding derivatives have been thirteen times the total global production of all goods and services.

Can you grasp this? I can not.

Remember, each derivative is suppose to provide profit to one of the parties. With so much theoretical (paper) funds in existence, even a very low fee can make hundreds of billons in profits. A fee of only 0.1% would provide a profit of $600 billions!

That is what you call real money.

Basically these are agreements between two or more financial institution that say, I am paying you this amount, that under certain future condition you will pay me so much money. If the condition did not occur, you have my fees as profit. If the condition does occur, you pay me the total sum we agreed on.

That is similar to insurance. Any one can insure any future event, from life insurance to safe-shipping insurance. You do not have to have any connection to the basic event. That means, you can take life insurance on a man on his deathbed without knowing him or have any relation to him. That is all legal. The only requirement, both side have to agree. Its their money.

But in our national disaster they did not risk their money. And they knew it - we had to jump in to rescue them. THEY WERE TOO BIG TO FAIL. That is the key problem. They gained privately, we pay for their risk if it is big enough.

Now grasp this one of many shenanigans by Goldman Sacks. In 2007 they realized that the bundling of many risky home loans were staring to sour, and are likely to be worthless. So they told some of their customers that these deals are likely to be highly profitable and sold it to them at a good profit. To increase their ill-gained profit, lying all the way to the bank, they went to AIG, the now famous American International Group, and "insured" that financial deal that they just sold. Goldman-Sacks (GS) was no longer having any risk with it, but they took insurance on it since they knew it will be worthless soon. Now, the bundle collapsed in value and GS demanded fro AIG the value they agreed to pay. AIG "knew" that all of these loans were good because they got very high rating from the rating agencies such as Standard & Poor.  S&P lied, did not tell the true value of the financial bundle because they had large business dealings with GS, beyond their so called "independent" market analysis.

Here is what I copied just now from S&P Home page:

"Today Standard & Poor's strives to provide investors who want to make better informed investment decisions with market intelligence in the form of credit ratings, indices, investment research and risk evaluations and solutions."

S&P is still claiming that after they were found to lie and over-rate much of the risky financial packages called subprime mortgage loans. They were one of the key reasons for the global financial melt down. The losses from that global meltdown is not clearly known but in the order of possibly hundreds of trillions dollars. That means that the global community must tightens its collective belts very tight to accommodate the money we never had. The money we thought we had and we spent as if we have it.

And here is another outrageous act by our government. The US is covering the above unjustified agreement between GS and AIG and paying GS the full amount owned by AIG if it was solvent. However, I believe the Fed should have repaid just the fee GS paid to AIG, not the total they agreed on. The Fed put out nearly $200 billions to rescue AIG!

I wonder why?

Now, think about it. Until recently, across the globe we lived as if we had so much net worth we could do everything we wanted (obviously not the underprivileged). We bought mega homes we could not afford, furnished them lavishly and went to vacations paying a few hundred dollars a night. But these high spending was not in real money, it was all pretend money. It was not based on real value, on lasting market value. It was a flash in the pan. Money loaned by the banks. The results, as we know it, are the wide spread agony of unemployment, low income, higher tuition fees, lower services for the needy, lower ability to spend, and uneasy futures.

The irony is that many people complain as if they had these homes they are now lost by bank repossessions. They lost the furniture and the easy life style. But it was not there, and it was not theirs, it was a false promise.

The people in fast moving housing industry, from labor, suppliers, to contractors are now unhappy. They should be, it was not their fault. Again it was based on a mirage.

To add to the problem, we can not contain and regulate the financial industry. They are bigger, smarter, more financially endowed than any Administration, Congress or government agency could be.

How come?

When a financial writer discussed the potential of financial regulations with a financial professional, he told him "we are not worried about government regulation. You see, he emphasized, we have the best brains here, we can out smart any regulation." And he is right, the best brains in the last decade went to the financial sector to develop more exotic instruments and find more effective ways to overcome government regulations. Some 50% of Harvard graduates IN ALL FIELDS - went to work in the financial sector before the recent collapse.

By the way, the outlandish high bonuses paid most in the failed financial institutions are back to their old levels. These high bonuses had major impact on the "profit at any cost" approach the industry, from bottom to the top took. How else can you explain that no one from that sector waved the flag and warned the government about the nearly illegal activities taken place. Money can overcome morality.

Now, may be you can realize why it is nearly impossible to regulate the financial sector, and why Congress does what is being told by financial lobbyists.

And that is one of the key reasons why this country has little if any ability to have a society that many of us want. A society based on the some reasonable elements of the common good, such as health care to all, care for the underprivileged, and better distribution of the national wealth.

With this kind of immense financial power - the overwhelming force in our economy- we should not expect that most of the US industry, commerce, and financial institutions would willingly participate in reducing global warming.  They see it from a very different perspective- what is in it for them. And both political parties are playing this game.


No feedback yet

Form is loading...