Credit Default Swaps, Derivatives, The Federal Reserve, Henry Paulson, Ben Bernanke, and How the Financial Crash Could Have Been Avoided

Posted 1 year, 10 months ago (Sunday, October 12th, 2008 at 11:59 am) by jwsmith

By J.W. Smith

Steve Kroft in Sixty Minutes did a great job describing what credit default swaps were and how they were bringing down the biggest banking houses in the nation.

As explained in the above video, credit default swaps are nothing but insurance policies given a different name so as to avoid retaining the reserves required by regulations of the insurance industry.

Instead of retaining reserves, these gamblers expected cash flows from premiums to cover losses and paid out their massive earnings in the form of multi-million dollar salaries, bonuses, stock options, and profits.

With the insurer, now called a credit default swap derivatives holder, having nothing set aside to cover major defaults when the housing bubble collapsed, they simply did not have the money to pay those losses.

These derivative companies were held “off the books” so the parent companies (Bear Stearns, Merrill Lynch, Lehman Brothers, Washington Mutual, AIG, etc.) could avoid the accounting rules of marking those credit default swaps to market.

All went well and massive profits were made as the bubble economy inflated. But when the bubble collapsed the losses were so massive that, though at first they tried, the parent companies could not rescue their off-the-books creations.

Though, as explained by Steve Kroft in the above video, they are what triggered the current, 2008-09, financial crash, credit default swaps are only about six percent of all derivatives. There are still over $600 trillion more derivatives out there and it is agreed by all that they are nothing more than bets on which way a company or some aspect of the economy will go.

When this financial collapse first started a year ago (October 2007), there were $530 trillion worth of derivatives, almost 10 times the GDP of the world economy. As the world economy lost $30 trillion in value during this financial crash, total derivatives rose to $700 trillion.

The Federal Reserve/Treasury is now speaking of trading an investment stake in financial institutions in for the money it takes to recapitalize these financial institutions to solvency.

The citizenry is becoming aware of the give-a-way of created money to the very people whose greed created this crisis. September through November money was created at the rate of 300% a year, from $836 billion to $1.479 trillion. Much more money will to be thrown at bankrupt banks and corporations.

If those who have to pay off those bets have no more money behind them then the credit default swaps people and the Fed/Treasury bailout effort fails to crank this house of cards back up, the people will own the entire banking system.

That analysis is based on the Fed/Treasury taking a creditor ownership stake in these companies which supersedes stockholder rights. But with the foxes guarding the henhouse the money thrown at bankrupt corporations could be a cover story to satisfy the masses as the foxes move as much of the taxpayer bailout money to overseas safe havens as they can.

But once ownership of a large percent of the world’s wealth is traceable to those supposed safe havens (currently $23 trillion worth), they are no longer safe. There is no way those $23 trillion, and rising fast, could be earned money and their property rights would simply be extinguished by law.

I am sure these thieves, currently called investors and unaware they are trading under property rights laws which are a system of theft, will prefer that to the normal angry citizenry response, the guillotine or the hangman’s noose.

To understand our failure to realize our property rights laws are a system of theft, we need only analyze how those rights evolved.

We are taught that Western culture evolved out of aristocracy but that is not true. Current Western property rights law, as applied to nature’s resources and technologies, denying others their rightful share of what nature offers to all for free, is only slightly adjusted aristocratic property rights law.

Aristocracy held exclusive title and all others had to pay them for the use of the land which nature had offered to all for free. Thus the extinguishing of the rights of all others was done through the principles of exclusive title as opposed to conditional title.

Society is Quintuply Repaid for Paying Land (Resource) Rents to themselves. Those socially collected funds pay for operating governments (local, regional, and national), builds infrastructure (water and sewer systems, roads, railroads, electric systems, and all other natural monopolies), and, when adding in the current unearned profits of banking which too should properly go to all, there are enough funds to cover health care and retirement.

Recapitalizing banks with public funds will, by those same property rights laws which created this crisis, transfer those bank titles to society.

That is not the disaster we are being told. That is an opportunity to have the costs of government, infrastructure, health care, and retirements paid by the rental value of the fruits of nature and the profits of banks.

For an understanding of the fraud of current property rights law and how those inequalities are responsible for both poverty and war, we need only analyze each monopolized sector of the economy and the massive efficiency gains from the elimination of those monopolies.

Just above we have already addressed exclusive title to land (resources) with society being quintuply repaid by by restructuring to conditional title (society paying rental values of nature’s resources and technologies to themselves).

Land’s tangible values were created by society itself simply by forming, they were not produced by human labor, society should collect those rental values, and return those funds right back to the citizenry by providing essential social services.

As opposed to land, Banking has no tangible values beyond a little brick and mortar, furniture, and computers. Fair return on tangible bank values plus the cost of labor has been proven to be covered by 1% interest on loans a century ago with expensive hand labor. The costs of computerized banking is not over 1/2 of 1% interest on loans.

Thus most the profits of banks are misnamed, they are unearned. Those massive unearned sums of money are properly termed “thefts of social wealth.” We have already pointed out that, just like the rental value of land (resources), those unearned funds should be collected by a socially owned banking system and used to provide essential social services (health care and retirement).

Britain providing better health care to all their citizens at 40% the cost per person as in America which has over 60 million essentially uninsured citizens and inadequate insurance on others exposes 60% of America’s health care as wasted. In that one sentence the monopoly of the our health care system stands exposed and the waste quantified.

The Monopoly within the insurance industry is exposed with equal simplicity. Social Security is only retirement insurance and its operating costs are 1/2 of 1% per year. Except for life insurance, all other insurances (automobile, home, health, business, etc.) are a necessity and thus a social right.

Simply replace marketing rights for essential insurance to a social right, establish the framework where that insurance is available simply by signing up, and costs drop roughly 50%. Those insurance offices every few blocks apart are replaced by one central office such as Social Security utilizes today.

Virtually every technology (industrial, chemical, or electrical) is an aspect of nature waiting to be discovered. Those technologies are monopolized through exclusive patent rights.

The unearned profits of monopolized technology are collected through the stock market. Currently inventors receive very little for their inventions. Most the profits go to monopolists.

Simply pay inventors well, place those technologies in the pubic domain, and 85% of the stock markets as well as the wasted labor and capital those savings represent disappear. Those savings permit the price of consumer products to drop fully 50% and we really think it would be 75%.

Those massive cost savings represent the equally massive savings of labor, capital, and resources as the monopoly superstructures operating those monopolies disappear as well as the massive unearned profits no longer collected.

In the case of land (resources) and banking, those unearned rental values and bank profits collected are returned right back to the citizenry. In the case of all other monopolies, the funds to operate the superstructures of those monopolies (labor, capital, and unearned profits) simply are not appropriated from the citizenry in the first place.

Unearned profits are the least of the waste incurred. By far the greater waste of our monopoly system is the unnecessary labor, capital, and resources necessary to operate the superstructure of those monopolies.

We calculate the total waste to be fully 50% of the current cost of operating the economy and this does not consider the cost of the military which is no longer needed. These past 60 years military might has only been protecting this monopoly system and the wars of the previous 800 years have primarily been over who will control those resources and the wealth producing process which is exactly what those earlier battles were about.

We needed to establish the above foundation before we could explain the real cause of the current worldwide financial crash. The above has already explained how to avoid them.

The rents privately collected on all the land and resources in America, including that which is savings due to property being paid for, is a truly massive sum. That and the fifty percent of the current costs of the health care and insurance industries currently wasted is a lot of money.

As the ethereal world of high finance is currently many times larger than the finance capital necessary to run an efficient economy and operating that superstructure costs huge sums of money, the funds that should never have been appropriated from the citizenry in the first place, and the honest profits available for distribution to them by an efficient socially-owned banking system, is also a huge sum.

The disappearance of the superstructure operating technologies, 85% of the stock markets, also saves massive sums.

Most of those savings are in the form of labor and resources no longer wasted. This permits a reduction in employed labor time of roughly 60%. labor time spent caring for the home and children will see a moderate increase. Self employed labor time will see a large increase and that productive employment will further decrease those in the labor force employed by others.

On top of those labor and resource savings are the finance capital savings. As just stated, this ethereal world of high finance is many times larger than that necessary to run the real economy. That is the real story that the finance industry does not want you to ever know.

Massive unearned wealth was spent lavishly in conspicuous consumption (mansions, wedding costing millions, private airplanes for pleasure, underwater submarines to cruise the oceans, etc,) investments, and still they could not spend all their unearned wealth.

More money than places to invest led to export of capital. This is the foundation for the massive export of capital and enforced privatizations (by the IMF, World Bank, and other infrastructures of world control) all over the world and also within the imperial centers. There simply was not enough safe place to invest these massive sums so safe places to invest were created.

But they still had too money left over that they could neither consume nor invest. And that massive amount of appropriated wealth with not enough places to invest is where the ethereal world of high finance came from.

As capitalist societies came out of their periodic crashes or wars, at first places could be found to invest all their money. But once those safe places to invest were all filled, money with no place to safely invest would start building.

The stock markets can absorb massive sums of unearned money and their values would rise in step with the absorption of that surplus finance capital. All stock values above monopoly values is gambling and all those unnecessary charges are a tax on society by monopolists who are not even aware this is a monopoly structure.

Too much money into stock markets would lead to bubbles and eventual collapse. So little by little other gambling games were inserted into capitalism’s financial structure.

This is where the $700 trillion derivatives market came from. Some point out that possibly 8% to 10% of the derivatives market has a legitimate purpose, primarily insurance. I could accept that except that those credit default swaps were the fake insurances that are bankrupting our financial structure as this massive gambling casino collapses.

The entire $700 trillion derivatives structure, fully 85% of the stock market (as addressed above), a good share of merchant bank business (the shadow banking system), and the monopoly aspect of all banking is nothing less than the ethereal world of high finance. Only a part of it is tied to the real economy. The rest is essentially producing nothing as it sucks massive sums of money out of the economy that belongs to us all in roughly equal shares.

This is what is missing in all financial and economic analysis, these massive sums of unearned finance capital should never have been appropriated in the first place. As laid out above, eliminate these monopoly structures and economic efficiency more than doubles.

If the serfs had won those early struggles and established a sharing society as laid out early in this posting, production would have doubled. That would have produced industrial capital for more people both within that society and other societies.

That sharing culture would have shared as it crossed the oceans instead of enslaving. As they met other people, they would have said, “We will teach you how to read, write, smelt ore, build ships, etc.” Soon the production of those newly literate people would have doubled. In a few years doubled again, and then again.

In short, if Western culture had established a cooperative capitalist society instead of a monopolized economy, there would have been little poverty, few wars, and we would have had a peaceful prosperous fully developed world decades ago.

The simplicity of eliminating poverty and war will stun you. That page is the conclusion of this author’s two primary books (Economic Democracy: A Grand Strategy for World Peace and Prosperity and Money: A Mirror Image of the Economy).

That conclusion alerts us that a financial collapse such as we are currently experience can be stopped in its tracks, all citizens can be quickly provided the income for food, fiber, and shelter, and the world economy quickly rebuilt with no poverty and no wars by simply following the rules of full and equal rights for all through a restructuring of property rights law and eliminating Plunder by Trade (addressed in that hotlink).

We should alert Henry Paulson and Ben Bernannke that their task is really simple if they, and all others, were willing to give up their massive unearned wealth as we restructured to an honest economy. Thank you. J.W. Smith

Those crucial 170 words describing an honest, efficient, capitalist economy. Does anyone have the ear of President Barack Obama’s Economic Recovery Team?