Number of the Week: $600 TRILLION

Financial “Sword of Damocles”:
Outstanding Derivatives Dwarf World Economy

What’s the best evidence, post-crash, that meaningful financial reform has yet to occur?

It’s not that those who helped orchestrate the debacle — corporations and individuals — have escaped accountability.

It’s not that the largest banks, whose size and interconnectedness raised the spectre of contagion — and therefore necessitated unprecedented, massive bailouts — are now 20% bigger than they were, pre-crash. 

And it’s not even that the legislation (“Dodd-Frank”) enacted to tame an overly complex, outdated regulatory apparatus runs to a stupefying 2,000-plus pages, and is itself so complex that no one can agree on how to implement it.

Give up?

It’s that the value of all outstanding credit derivatives — according to The Wall Street Journal — is $600 TRILLION.

That’s $600 T-R-I-L-L-I-O-N, folks.

Selling Cars With Bad Brakes

To put that absurd number in perspective, that’s three times the sum total of all the wealth in the world, according to Credit Suisse Research Institute’s Global Wealth Report.

So what?

With no change in today’s financial or regulatory system, that number represents taxpayers’ theoretical liability if the various parties to all those credit derivatives busted, ala AIG, and governments — and therefore taxpayers — had to plug the hole.

How’s that for a financial Sword of Damocles?

Analogy #2

Too complicated?

Try this analogy instead.

When Phil Angelides, chair of the Financial Crisis Inquiry Commission, accused Goldman Sachs of “selling cars with faulty brakes and then buying insurance policies on those cars,” he only had it partially right.

What he left out was the scale and leverage.

So, Goldman — and other financial players — didn’t just insure the defective cars for their value, but for triple their value.

And then turned to the government to be paid off when the “counter-parties” standing behind all those insurance policies inevitably blew up.

Calling Brooksley Born

What to do about all this?

Forget regulating credit derivatives.

The same political forces that subverted regulation more than a decade ago will see to it that any attempt to rein in credit derivatives now will be weak and incomplete.

Today, a simpler, more sweeping response is called for.

Whatever the argument may have been, once upon a time, for credit derivatives, the mayhem they unleashed in 2008 — and the threat they continue to pose to the financial system and by extension, the global economy — is simply untenable.

So void them.

All nauseating, corrupt $600 trillion of them.

Credit Derivatives Casino

While extraordinary, there is historical precedent for government acting to void private, commercial contracts where such obligations pose a grave threat to the commonweal, or are otherwise deemed to be unlawful.

Two, in fact.

During the Civil War, with a stroke of his pen, Lincoln rendered millions of slaveowners bereft of their human “property.”

A century later, the Civil Rights Act of 1964 instantly negated millions of real estate covenants nationwide that prohibited the sale of property to Blacks, Jews, and other minorities.

Shutting down the world credit derivatives casino — the stuff of Warren Buffett’s “financial weapons of mass destruction” — is a third, worthy use of this extraordinary governmental power.