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The Banks Broke It All

Here's an article on the role banks played in creating the economic crisis we're now dealing with. And it's not just us. It's rippling all around the world. It's a long read, but interesting. The short of it is they invested heavily into things they ought not to have done. And they should have known better.

In a luxurious chateau in Alsace eight years ago, a top financier made a confession: some of the complex financial instruments being pumped out by the world's biggest investment banks were potentially "toxic". Top regulators were left in no doubt of the perils hiding in the financial system after the two-day summit aimed at finding and disarming the bombs waiting to explode.

The warning proved to be prescient. About a year ago one of these bombs exploded. The ensuing credit crunch could lead to a complete redrawing of the financial map and may even herald the end of globalisation.

The toxic instruments highlighted by the banker were collateralised debt obligations (CDOs). Little was known of them when this regulatory teach-in was taking place, but since then banks have embraced them as a way of shifting debt off their balance sheets, enabling them to lend more. They have been bought enthusiastically by many investors across the financial system. As they began to blow up last year, there was mayhem at banks and brokers on Wall Street, which, in turn, sent shock waves through the world's financial markets.

CDOs are the villains of the market turmoil but before they unravelled they fuelled easy credit and economic growth in many developed economies. Britons amassed a record £1.4tr of debts - more than the UK's gross domestic product - as banks loosened their lending criteria. Millions of Americans with poor credit histories who might not otherwise have bought their homes were granted sub-prime mortgages.

But as gridlock gripped the markets, the repercussions have been painful. A record number of Americans are having their homes repossessed. Britons are finding it tougher to obtain credit and home loans. The damage is still being quantified but is already far-reaching. Northern Rock was nationalised by an embarrassed British government. The US Federal Reserve orchestrated the rescue takeover of the investment bank Bear Stearns. Rogue traders were found at the French bank Société Générale and the Swiss bank Credit Suisse.

Wall Street banks that make A&L look like a minnow must have their regrets too. They reaped profits from selling these CDOs in the good years. But towards the end of 2007 Merrill Lynch, Citigroup and Bear Stearns - which collapsed into the rival firm JP Morgan Chase - had to admit the extent of their problems. The key player in CDOs, Merrill Lynch, was forced in the space of a fortnight in October to increase its writedown from exposure to these instruments by $3bn to $7.9bn. Stan O'Neal, the then Merrill chief executive, said: "We made a mistake. Some errors of judgment were made in the business itself and within the risk-management function." The grandson of a slave was out of a job a week later. Merrill has since increased its write-down to $25bn.
The banks are providing the most dramatic illustration of the impact of CDOs. But insurance companies are revealing their exposure to the products, too, and the US company Bristol Myers Squibb has shown that the crisis has spread to the corporate sector after writing down the value of investments related to the sub-prime mortgage crisis by $275m.
In theory, pushing CDOs and other cleverly engineered products around the financial system spread the risk. But in practice it made it difficult to work out where the explosions were going to occur. But until August it had became so easy to sell on the risk that many investment banks were relaxed about it. The banker with the pen and paper reckons that the traders responsible for selling on the CDOs started to allow some of them to remain on their books, confident they would soon be able to pass them on. As difficult as it may be to comprehend, the Bank for International Settlements said last week that demand for certain types of CDOs was so high last summer that firms were able to transfer more sub-prime risk to investors than was actually originated in 2005 to 2006.

The BIS said: "A few fundamental tenets of sound financial judgment appear to have been violated."

[all emphasis mine]

A few tenets??? No shit, sherlock.

Oh, and btw, inflation is on the rise in Asia. Couple that with the falling U.S. dollar and all that cheap stuff we were getting that was manufactured in Asia is going to start being less cheap.

Tighten your belts, kids. It's gonna get bumpy.

By min | April 8, 2008, 1:24 PM | Liberal Outrage


I'm pretty sure Sherlock has a capitol S. And, when are we getting a damn RSS feed?

capital letters are for sissies.

what exactly is so juanderful about RSS feeds, anyway?