The Emperor Finds a Mirror, and is finally worried

I remember when the Glass-Steagall Act was repealed in 1999, eliminating the divisions between the banking and insurance industries and other regulation of the financial sector. The New York Times front page had this picture.

The picture features Bill Clinton sitting at a wooden table, smiling and laughing, as he put his imprimatur on the bill. Surrounding him are a crowd of gray or balding old men, smiling and laughing, as they collectively sign away the regulations on the market.  Had I been better educated at that point (i.e. not from an elite university in the U.S. ;), I would have been able to put words to my feeling of, let's say, discomfort. You might consider this an emblematic moment at which the balance of the pro-rich, pro-corporate policies was moving away from pro-market- a very useful distinction that political scientist Atul Kohli has drawn in discussing the last 25 years of politics in India (pdf).

Flash forward to today.  Politico reports that the people in power have had a Very Serious Meeting. For the interests of those who are interested in the stability of 'the market' (henceforward known simply as 'capitalism' or 'the established order'), this is a Very Serious Meeting that should have been held a Very Long Time Ago. Like, say, the summer of 2007 when the people in power were too busy blaming poor people subjected to predatory mortgage policies and not a policy regime over many years that fostered high risk, low regulation investments on a massive scale, frequently on margin, and not just on mortgages. A good example is the Yen Carry Trade:

But what is the yen carry trade? Put simply, it is borrowing at low interest rates in yen and using the loan to buy higher yielding assets elsewhere. During the past decade, the trade has become a “staple” for many investors, says William Pesek Jr on Bloomberg. Perhaps the most popular form of the strategy exploits the gap between US and Japanese yields. Anyone borrowing for next to nothing in yen and putting the money into US Treasuries (US government bonds) has received a double pay-off: from an interest rate difference of more than three percentage points and from the dollar’s rise against the yen. Investors make their profit when they reverse the trade and pay back the yen loan.

In other words, large amounts of money borrowed on credit for the purposes of speculation.

But, like the picture described above, I thought that a paragraph in the Politico article was precious in how many different things it says about what's wrong with the world today. I take this as a sign that things are about to change, potentially drastically (a good rule of thumb for me is that if you read it in a newspaper and notice it, it's probably already happened, though I'm working on trying to get ahead of the curve ;)).

Here's the money paragraph:

“This is a very serious moment, very serious. It was a very sober gathering.” said Senate Banking Committee Chairman Chris Dodd (D- Conn.). “I’ve been in the Senate for 28 years; Congress 34. There has never been a moment as serious as this one.”

What are all the things this tells us?

1. The collapse of large banks and the potential collapse of more large banks hits home to provoke serious discussion by American policymakers moreso than when they are killing people in other countries, global warming and the possibility of entire coastlines being flooded, torturing people, extrajudicial detention, cutting poor people's benefits, stagnating middle class wages, massive earthquakes, political coups in foreign countries, that we're potentially in the middle of a mass extinctions, the fall of the Soviet Union, the problems with structural adjustment policies, the increasing theocratization of American politics, how bad the Mets bullpen is, the unfortunate collapse of the Brewers, etc....

2. Another good rule of thumb is that if the people in power have noticed and are concerned, it's probably pretty serious for their interests. In other words, the global economic order of the past two or three decades is over.

3. Most interestingly, the man saying this - Chris Dodd - was a favorite of 'progressives' looking for a good Vice Presidential pick for Barack Obama. The man who was eventually chosen, Joe Biden, is sometimes known as D-MBNA (though I suppose that should now be D-Bank of America, in fairness ot my unfair creditors). I mention this because of how much it reveals a disconnect between the label progressive and the politicians that get supported through it (see points 1 and 2).

4. It should be noted that there are two politicians running for President today. There is John "The Fundamentals of the Economy are Sound"; McCain and Barack 'Are you people on crack?'; Obama. And the difference is this: McCain will exacerbate this crisis, because he will pursue the same blind faith in political ideology over pragmatic economics. This is not an ideological debate, though the Republicans try to frame it as one. The only ideological debate here is the extent to which you believe that you should attempt to develop effective strategies for your particular political and economic goals is ideological. You can be a Maoist, a Democrat, a neocon, or a Zionist, but regardless, there is a difference between being a 'true believer' and someone who believes but tries to fix things - even if in a long term sense in trying to create new things.

Obama will at least attempt to fix the current global and political economic order for a relatively broader section of people, notably including the most powerful whom it benefits the most, while McCain will blindly pursue the same economic policies that have enriched a narrow stratum and smaller sections of the very powerful (see: Dick Cheney's friends). For example, McCain's chief economic adviser, Phil Gramm, has his name on the bill that repealed the Glass-Steagal Act described above as he held the same position then that Dodd holds now.

So that is among several of the aspects of the choice between Obama and McCain.  Know, though, if you're inclined to say that it's a non-choice on economic grounds, that although the rich and their idiotic ideas created this problem, they probably won't be the ones who are hit hardest by it or the policies in response. Nor will the Change(TM) promoted by Obama do anything to structurally change the reality that they will again come to power and have idiotic ideas. In fact, in my opinion, he's probably going to end up doing everything in his power to make sure that they can - even if it's unintentional. However, he will definitely prevent the market from going to hell in a handbasket and probably be a lot more sympathetic to the interests of the American poor. He's certainly more experienced at being so and better positioned to be responsive to the coming demands of the poor and marginalized, both within the United States and outside, for better and for worse. Hegemony tends to reduce the prospects of mass slaughter, unlike, say, God-willed wars.

In conclusion, see my point here about effective strategies for people who don't want McCain, do want Obama, and do recognize the limits of Obama. Vote, if you're allowed to. If you have the capacity, go beyond, with your feet, or arms, or head, or hands. It's the global repercussions of this that are going to be least understood, the most painful, and the most violent--and with good reason. There's a limit to how much idiocy, authoritarianism, lying, and violence, large numbers of people can take when their lives and loved ones are legitimately threatened.

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There's a limit to how much

There's a limit to how much you can run the economy on zero/negative NPV investments. And it takes spectacular stupidity to convert an inherently positive NPV investment in real assests into a zero NPV investment in financial assets. In all fairness to Bill Clinton the state of regulation was very different when he signed the bill in 1999, when the Republican Senate rammed the bill thru against he objections of Dodd and Biden among many other Democratic Senators, and with the assent of McSame.

differences between Democrats

differences between Democrats and Republicans granted, the larger point is that they're all complicit - at least all the politicians from 1980 to date. I grant you, though, that I don't understand the big-picture story dynamics of pro rich vs. pro market in the U.S. as well as I do on India. Lots of details to be filled in - what was the role of specific choices by clinton liking signing on to Nafta, to what extent was it blind ideology for the past 15 years and to what extent was it structural, and was there any way to keep the monster in the bottle once the soviet union collapsed and reagan reigned supreme.

but more to the point - they're all complicit.

What a piece of crap Please

What a piece of crap

Please read:

These posts by two professors debunk thoroughly your claims that the repeal of the Glass-Steagall was harmful.

A big reason why the housing bubble occurred which led to the current credit crisis is the foolish "Community Reinvestment Act" which forced banks to make loans/mortgages to people with no credit (for which "community organizers" and other shakedown artists took a lot of credit). And when obviously the poor failed to pay back the loans it led to a domino effect which has brought us to where we are today. And look at the gall of the leftists who now blame banks for preying on the poor when it was they who forced the banks to loan money.

And Chris Dodd is a crook. Not only did he get a sweetheart loan from Countrywide, he was also the biggest beneficiary of Fannie and Freddie electoral contributions.

Interesting the Obama got 6 times the cash McCain got the Fannie and Freddie while serving for one-fifth as long as McCain. More interestingly McCain got $0 from the Fannie and Freddie PACs

Obama is in the pocket of Fannie and Freddie and the other Democrat Influence peddlers. He is not going to reform them, he is going to let them continue their crooked ways.

Try coming up with an

Try coming up with an argument.

Here is a good critique of GLB, on the grounds that it may extend "too big to fail" to too many institutions. That may yet happen but not so far.

That's from your source. Now, if your source is saying that, and my own reasoning tells me that the widespread financial deregulation, easy credit, poor risk analysis measures, conflict of interest, and control of policy by finance capital (and these finance-capital friendly politicians) was a big source in creating this mess, and I've written a piece on symbolic moments and what they illustrate about American politics and economy, then tell me again why it's a piece of crap?

Oh yeah, it's not.

And change your moniker or I'll change it for you. This isn't SM.

Oh please. You haven't been

Oh please. You haven't been able to refute my argument. Many economists have agreed to the fact that GLB may have made the situation more palatable than what it could have been without it. We are better off with it than without it.

And you presume to change my name? As a self proclaimed progressive do you have a problem with what people call themselves. For some reason people of your ilk are the most thin skinned.

Your moniker was offensive to

Your moniker was offensive to me on principle and needlessly provocative and as it's in my power to change it, I did, after allowing you the opportunity to do so and you refusing. If you have a problem with it, feel free to mount a defense, bombard my e-mail account with fellow supporters, or otherwise tell me why it is that I should tolerate on my thread someone who equates Hitler with Community Organisers. Otherwise, you can stfu about it....sorry.

Notably, this is among several reasons why I didn't take your argument seriously. It's not that I'm unable to take the time and energy to refute it - it's just that I see no point. You're a market fundamentalist- if i spend the time researching the repeal of the Glass-Steagall act and its effects - which I may do for my own purposes if I so choose - I doubt I would come to very different conclusions about what is more improtant - namely that the broad ternd of financial deregulation, conflicts of interest on risk analysis, easy credit available to everyone, and a total inattention to generating actual demand (rather than credit based demand) for goods and services in the real economy has led to an enormous debacle. If you want to take up that argument feel free. If you want to point me to the many many economists that argue that Glass-Steagall was part of the problem and not part of the solution and those economists actually make sense (as opposed to many American economists who are too ideologically brainwashsed by the their own professional ideology to notice that they don't make any sense), then I'm happy to consider those points.

But I don't do shallow arguments, and I don't put up with bullshit, so if you present something to me beyond that for the purposes of an engaged and interesting conversation (as conservativs have on occasion done) i'm happy to consider it; until then, I'm going to spend my time calling my congress people and encouraging my friends to do the same so that Social Securitty doesn't get privatized or the US government doesn't go into default because President Bush decided that he cares more about profit taking for his friends than the health of the market.

Good day, sir.

And here's the refutation to

And here's the refutation to your nonsense above. I didn't realize you had simply pulled it from movement nonsense, but I should have.

Never ones to quit playing the blame game, movement conservatives are trying to blame the current crisis on blacks (and, to a lesser extent, Latinos) and the liberals who love them. Media Matters took Fox's Neil Cavuto to task for getting the ball rolling on this. NRO jumped on the bandwagon, "big time" as America's #2 war criminal would say, in an editorial yesterday blaming the Community Reinvestment Act, which provides a mechanism (obviously rather inadequate) for promoting investment in traditionally redlined communities. The editorial, which began by defending Phil Gramm, went on to state:

Much more problematic than Gramm-Leach-Bliley is the Community Reinvestment Act, a bit of legislative arm-twisting much beloved by Sen. Obama and his fellow Democrats. One of the reasons so many bad mortgage loans were made in the first place is that Barack Obama's celebrated community organizers make their careers out of forcing banks to do so. ACORN, for which Obama worked, is one of many left-wing organizations that spent decades pressuring banks and bank regulators to do more to make mortgages available to people without much in the way of income, assets, or credit. These campaigns often were couched in racially inflammatory terms.

There are just two itsy-bitsy problems with this "explanation," as Matt Yglesias explains:

#1, the CRA has been around since 1977. The current financial crisis has not.

#2, the financial crisis problem is not with the loans themselves, but with how the financial system deceptively repackaged them. (Indeed, without this deceptive repackaging the sub-prime mortgage situation would never have mushroomed the way it did.)

Actually, of course, it's much worse than this, since, as per usual, many blacks who qualified for market-rate loans were steered into sub-prime loans instead.

What's the name for this?

(A) Blaming the victim.
(B) Racism.
(C) Conservatism.
(D) All of the above.

I'm impressed by how closely you got to the text of the movement conservative talking points.

Dr A: I don't know what the

Dr A:

I don't know what the repeal of Glass-Steagel really has to do with this (though I'm open to argument) other than to try to attach this scandal to the vague concept of deregulation that the repeal represents, and coincidentally occured during the same time. I think even Obama would agree as I saw he had Robert Rubin by his side the other day.

But I would warn against trying to pigeonhole this crises into the narrow ideological narrative that Rebulican dergulation led to this. I notice, for example, your post fails to mention Fannie and Freddie, 2 companies in the white hot center of this crises.

Now Fannie and Freddie are not regular companies, they're products of the New Deal and have evolved into government sponsored entities with almost unlimited borrowing power that essentially make the mortgage market and provided the bulk of liquidity for these subprime mortgages. Without this market, lenders would have to bear the risk themselves and ibankers would have to rely on private investors, like hedge funds, to take the risks off their books. Why did they want these securites? Well, it does begin with the CRA.

#1, the CRA has been around since 1977. The current financial crisis has not.

Fannie and Freddie may have had a mandate to increase the number of low income home buyers for 30 years, but the mandate evolved considerably. The Clinton admin, for example, pushed banks to extend home mortgages to individuals whose credit prevented them from qualifying for conventional loans while simultaneously pushing Fannie to ease credit requirements on loans purchased from these banks and other lenders. HUD wanted 50% of Fannie and Freddies portfolio be made up of loans to low and moderate-income borrowers. Everyone knew at the time that this meant considerably more risk , and Clinton pushed for down payment requirements to be reduced as well, but the move was intended to increase the number of minority home owners , so everyone looked the other way.

By 2003 Fannie and Freddie accounting scandals began to hit the fan, fanned by the WSJ excellent reporting on the matter. McCain and Greenspan called for more regulation (blocked by the dems) and the 2 companies were asked to justify their government subsidy, which they did by pointing to their affordable housing mission. Around this time their subprime portfolios grew enormously, creating the very demand in the secondary market neccesary to for Banks to feel comfortable making these loans in the first place.

This doesn't negate your criticism of deceptive sales practices by Loan Officers, nor your concern that the securites were too complex and deceptive (though my opinion is we will make money on these securites and it was less fraud than carelssness due to the fact the bankers hoped to pass on the risk to investors, most notabley Fannie and Freddie) but adds the critical componant to how a mrket for such securities deveoloped.

The above, Dr A, was me being

The above, Dr A, was me being genuine; but to return to the Machiavellian Manju you know and love, I'm sure, speaking purely politically though, your simplistic “Republican Deregulation Caused This” narrative will win the day. Congrats on a political winner for progressives in America, for once.

People do like to keep things simple, and a rule of thumb is the Executive and his Philosophy (and Party) gets blamed for what happened under his watch even if it wasn’t all his fault, even if the other party controls congress, and even if he didn't follow his stated philopsophy...ergo, its no surprise to see Obama’s poll numbers skyrocketing.

McCain latest gambit is brilliant, if for no other reason that he knows he needs a Hail Mary here again. Choosing Palin probably kept him in the race, even if her effect has worn off, and now he has yet again put Obama between a rock and a hard place. If Obama suspends his campaigning he looks like he's following McCain, and McCain is positioned then as the leader, and if he doesn't he appears to be putting politics ahead of statesmanship.

McCains proving to have great political instincts by just staying in the race. Obama should try to portray McCain as panicky when we need a cool hand. He appears to know all he has to do is show up to win, but it still must be unsettling as he wonders how the public will react to McCains risk taking.

If anyone can pull this Hail Mary off its McCain, but at the end of the day counter-narratives are simply have too high a hurdle when a simple slogan will do. So the people will probably deliver Obama to the White House, and I have no problem with that.

Dude, read the post. It has

Dude, read the post. It has the word Republican in it ONCE because it's a political economy analysis that's geared against the American elite. The problems, again, are a 25 year regime of deregulation, speculation, conflicts of interest and other reasons for poor risk assessment, margin buying, imposition of the regime on unwilling partners, and credit that was too cheap. The repeal of the Glass-Steagal Act is directly tied into this - it's what allowed banks to go into insurance and vice versa, allowed companies "too large to fail" to emerge.

Yes, the Republicans promoted and engineered this series of actions, but the Democrats bought into it too - in large numbers, as you will see in the final bill that emerges shortly, barring some kind of miracle. The stagnation of real wages which necessitated a resort to credit (and credit bondage) is what allowed all this to happen. The economy was not balanced, and finance capital was given free reign.

This is hardly an original analysis - it's just here because it's imo correct. But I'm not going to debate it with you until you read up on it. The more you try to blame the poor, the less I'm going to listen. Again, this is not SM and this kind of bull$hit is not tolerated here.

Here s one big part of the

Here s one big part of the answer. First, the alert reader will notice that Ben Stein said many times that the amount of money at risk in the subprime meltdown was just not enough to sink an economy of this size. And I was a point. The amount of subprime that defaulted was at most - after recovery in liquidation - about $250 billion. A huge sum but not enough to torpedo the US economy.

The crisis occurred (to greatly oversimplify) because the financial system allowed entities to place bets on whether or not those mortgages would ever be paid. You didn't have to own a mortgage to make the bets. These bets, called Credit Default Swaps, are complex. But in a nutshell, they allow someone to profit immensely - staggeringly - if large numbers of subprime mortgages are not paid off and go into default.

The profit can be wildly out of proportion to the real amount of defaults, because speculators can push down the price of instruments tied to the subprime mortgages far beyond what the real rates of loss have been. As I said, the profits here can be beyond imagining. (In fact, they can be so large that one might well wonder if the whole subprime fiasco was not set up just to allow speculators to profit wildly on its collapse...)

These Credit Default Swaps have been written (as insurance is written) as private contracts. There is nil government regulation of them. Who writes these policies? Banks. Investment banks. Insurance companies. They now owe the buyers of these Credit Default Swaps on junk mortgage debt trillions of dollars. It is this liability that is the bottomless pit of liability for the financial institutions of America.

Because these giant financial companies never dreamed that the subprime mortgage securities could fall as far as they did, they did not enter a potential liability for these CDS policies anywhere near their true liability - which again, is virtually bottomless. They do not have a countervailing asset to pay off the liability.

This is what your humble servant, moi, missed. This is what all of the big investment banks and banks and insurance companies missed. This is what the federal government totally and utterly missed. This is what the truly brilliant speculators in these instruments did not miss. They could insure a liability they could also create and control. It is as if they could insure a Cadillac for its value upon theft - but they could control what the value the insurer had to pay off was. The insurer thought it might be fifty thousand dollars - but it was manipulated into being two million.

This is the whirlpool sucking down finance.

Now, we are about to have a similar phenomenon happen with commercial mortgage debt, debt from mergers and acquisitions, credit card debt, and car loan debt. Many trillions of dollars in Credit Default Swaps have been sold on all of this, and the prices of all of them have fallen and can be made to fall more.

As I said, the pit of loss is bottomless. Warren Buffett, the smartest man of all time in the world of finance, has called financial derivatives - of which Credit Default Swaps are a prime example - "weapons of financial mass destruction." And so they are.

From noted left-wing radical Ben Stein ;)

The repeal of the

The repeal of the Glass-Steagal Act is directly tied into this - it’s what allowed banks to go into insurance and vice versa, allowed companies “too large to fail” to emerge.

I'm not sure that it is tied, and you don't make the case. I could be wrong, but I don't think glass-steagall prevented banks from going into insurance. It may have but that's pretty irrelevant to this crises. The big thing about glass-steagall is it separated investment and commercial banking. Most of Europe never had this seperation in the first place.

Now in theory this could produce institutions to big to fail, but that didn't happen here. Only, freddie, fannie, and AIG were too big to fail. The first two are govt-sponsored mortgage investors, the latter an insurance and money management company. All did nothing that it really couldn't do under glass steagall. Insurance companies traditionally take your premiums and invest them, AIG just did it more agressively, not unlike Bershire Hathwaway, though clearly not as well.

The other companies in question, Bear, Lehman, Goldman, Merril, and Morgan, all operated as if glass steagall were still in place...independent investment banks. In fact, if you haven't noticed, one solution to this is to have them merge with commercial banks or become one themselves, something outlawed by glass-steagall.

so your emphasis on glass-steagall strikes me as an attempt to pigeonhole this into an ideological narrative. It doesn't fit.

The more you try to blame the

The more you try to blame the poor, the less I’m going to listen.

Well, you just reduced my somewhat detailed narrative of what happened to Fannie and Freddie to trying to blame the poor. That's my problem with your post, its just pure ideology, and it doesn't surprise me that you threatening not to listen when facts counter your narrative.

I like ideology as much as the next guy but facts should guide it, not vice versa.

The Gramm-Leach-Bliley Act,

The Gramm-Leach-Bliley Act, also known as the Gramm-Leach-Bliley Financial Services Modernization Act, Pub.L. 106-102, 113 Stat. 1338, enacted 1999-11-12, is an Act of the United States Congress which repealed part of the Glass-Steagall Act, opening up competition among banks, securities companies and insurance companies. The Glass-Steagall Act prohibited a bank from offering investment, commercial banking, and insurance services.

It took me three minutes or less to find that. If your goal is to get me to say, I don't know everything about the credit crisis - congratulations! you have succeeded!

Look, if I've written the post poorly, that's my fault. But from my vantage point I think clear that the first moment I've used illustrates class interests/economic policy in 1999, the 2nd moment illustrates class interests/economic policy in 2008, and it then goes on to talk about class politics, the bailout politics, and the election. It was not meant to imply that the repeal of the Glass-Steagall act by itself is responsible for the financial crisis, and in fact, I think that either I have wholly miswritten the post or you are an idiot if you think that this post does that.

This is why I have said things like this:

You might consider this an emblematic moment at which the balance of the pro-rich, pro-corporate policies was moving away from pro-market- a very useful distinction that political scientist Atul Kohli has drawn in discussing the last 25 years of politics in India (pdf).

But, like the picture described above, I thought that a paragraph in the Politico article was precious in how many different things it says about what’s wrong with the world today.

But apparently that is not enough. However, you really are not my primary audience, to whom I would be much more kind, and at this point, I have other things to do than worry about whether I have convinced you or not that easy credit + low regulation = market failure --> government bailout. I have to stop the bailout, and part of that is not wasting time with arguments like not-Hitler's and yours that the mortgages themselves were the problems - there are enough people out their writing about how the packaging and retrading of bad mortgages was the problem - like the one that is quoted right above your latest comments.

In any case, good luck with your postmodern search for confusion--I'll see you on the other side of the barricades.

Well, you just reduced my

Well, you just reduced my somewhat detailed narrative of what happened to Fannie and Freddie to trying to blame the poor. That’s my problem with your post, its just pure ideology, and it doesn’t surprise me that you threatening not to listen when facts counter your narrative.

I like ideology as much as the next guy but facts should guide it, not vice versa.

For future reference, if I ignore one section of your argument, it may be because I have realized you have fixated on the portions of the problem most convenient to your argument, ignored the portions that are inconvenient, are looking at the overall situation through a skewed lens which ignores that Freddie Mac's and Fanny Mae's failures are just part of a much broader economic trend, and ultimately failed to undersatnd what either the surface level or root causes of the overall financial crisis are about. It was the unwillingness to invest the time in stating all this that was my reason for not responding to your detailed and still largely unread analysis of why those two government-supported companies collapsed - because it's largely irrelevant to the broader trends I'm talking about and which I wanted to discuss here honestly and openly. I find that difficult to do with you since you either haven't read what I wrote closely or you don't understand it (which could admittedly be my fault...i've been accused of unclear writing before many a time). But I don't put up with $hit from my mom and I certainly won't from you - go read up on your own (non selectively ;), come back to me, and then tell me again that I'm too ideological.

And I appreciate those aspects of the argument that you were kind enough to acknowledge.

not wasting time with

not wasting time with arguments like not-Hitler’s and yours that the mortgages themselves were the problems - there are enough people out their writing about how the packaging and retrading of bad mortgages was the problem - like the one that is quoted right above your latest comments.

Well, packaging and retrading bad mortgages are absolutely necessary in order to free up capital to continue to make these loans. Fannie and Freddie exist to create the secondary market that makes these loans possible. The mortgages themselves wouldn't exist in any meaningful way without them being repackaged.

Steins article is intersting, as he's talking about speifics as I am with Fannie and Freddie, wheras you're jumping immiedialtly to a pre-existing ideologically based broader economic analysis and root causes argument. I don't think we can know that until we know the specifics.

Its unclear form Steins article how these derivatives were "wildly out of proportion to the real amount of defaults" when derivatives actually derive their value from the underlying security. He implies unnamed speculators were able to control the derivative prices (apparently without controlling the underlying security) in order to manipulate the market. Sounds doubtful for the reason stated above.

Plus bailing out the Banks actually would ruin the speculators game as described by Stein by propping up the price of these securities that they want ot fall, thereby screwing the person on the other end of the option contract.

Plus he doesn't name who these speculators are. I find it hard to believe these unknown speculators are so smart they can go mano o mano with goldman and lehman traders and win. In fact, there are very few large hedge funds that make directional bets on the market like this. What he's probably talking about are arbitrageurs, people who are betting prices in similar securities will converge rather than the market going in one direction. The convergence is based on a rational market, but when the market is irrational like now, or like when Russia defaulted on their debt, or during the Internet craze, arbitragers often see unrealized losses as they await the world returning to normal.

Its also important to point out that these guys make very small profits on each trade, its just that these profits are very consistent and predictable under most circumstances so what they do is valuable on a risk/reward basis. Ergo, the cheap credit you speak off. They need to leverage themselves in order to make a good profit.

What probably happened is these arbitrageurs (and their counter parties at the ibanks) were over leveraged so they couldn't hold onto their bets (becuase of the cost of borrowing going up) until their financial models proved correct. A very similar thing happened to Long Term Capital Management, the giant hedge fund bailed out by the ibnks at the behest of the fed. The also had a complex portfolio of derivatives valued at zero, yes zero, at one point. Stein cites buffet, but buffet wanted desperately to buy LTCMs portfolio, which ended up making a lot of money in the long run.

Buffet also thinks the government will make money here. We are buying these assets at 65cents on the dollar. the loans are ultimately secured. when housing prices recover the next prez will have a windfall to save social security and will be hailed as a hero. i find it hard to believe the financial models are that wrong.

No need to to rewrite global capitalism. probably we need to adjust margin requirements for derivative products.

(I know this is a little esoteric and i'm probably not being too clear here, but this is just my honest take. I'm not absolutely certain by any means, but I think this is the endgame)

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