$1 Quadrillion dollars of Unregulated Debt At Core of Coming Derivatives Crisis

September 30, 2008 by · Leave a Comment
Filed under: Economic News 

This, in my opinion is the real crisis that is happening behind the scenes and is the elephant in the corner that no one is talking about. The real issue is when Bear Sterns, Fannie Mae, Freddie Mac and Lehman Brothers went under or were taken over this triggered by some estimates between $3-5 trillion dollars of these debt insurance contracts. That would be fine if these were regulated instruments of protection that had rules on the books for how much loss reserve you have to carry on your balance sheet against loss. But these were not those types of contracts.

They were instead unregulated insurance contracts between almost any two parties the each believe had a reasonable ability to function under the terms of the contract. They have been around since the early 1990’s, so this is how they have increased to a size of this proportion. Now with the GSE’s as the biggest real estate hedge funds (basically) in the U.S. and Bear and Lehman, who by the way was a top ten derivatives dealer so they were a counter party to many clients.

Now we have dominoes falling and no one knows what exposure other firms do so they are hesitate to lend with each other. Another problem was the fact of this being a method of generating fees for your firm, it was something that gained support and other players jumped into the game and this drove fees down and in essence under-priced risk on debt instruments that were being used in a bubble market. It is a very difficult situation and I would say it if plays out like it should then we would see many firms going out of business and the reform of the system to bring trust and prudent regulation into the markets.

Content Piece:

Despite all the blather and swearing-on-the-Bible pronunciamentos from establishment “pundits,” our house-of-cards financial system is not fundamentally sound. Expect such indices as the Dow to tumble even much lower when the Pandora’s box of derivatives is fully opened.

Believe it or not, the Dow is still not far from its all-time peaks, with a lot further to fall. The depression is still in its early stages. We are looking at $1 quadrillion of unregulated debt, with much of it at risk. (And we used to think $1 trillion was a lot.)

These are literally inconceivable sums. Counting one dollar per second, it would take 32 million years to count to one quadrillion.

The stock market in this era of the privately owned Federal Reserve Bank is a giant craps shoot. Much of it is quite unregulated, especially the invisible market of derivatives. The sub-prime mortgage market collapsed, which is now being followed by a giant credit crisis. Now we are looking at the possible collapse of the derivative market.

President Bush failed at every business he has been associated with. He has always had his dad to bail him out to avoid bankruptcy. But this time his dad and even Henry Paulson can’t keep Bush from facing the failure of his economic policies at the helm of the U.S. economy.

America’s oversized debt pyramid has just begun to wind down. The Federal Reserve has announced that it is giving an $85 billion loan to American International Group (AIG), the world’s largest financial conglomerate, in exchange for a nearly 80 percent stake in the firm.

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