Neil Garfield | February 16, 2011 at 10:51 am
EDITOR'S COMMENT: Once again Simon JOhnson hits the nail on the head. Those of you who want a more sophisticated picture of this mortgage mess along with the macro-economic view would do well to visit www.baselinescenario.com.
With the latest move in New York allowing legal aid to homeowners in foreclosure, the number of contested cases is going to go through the roof. If other states follow, the battle will be on, not in pieces but across the country. The entire securitization infrastructure is an illusion. It is written, but next to the facts, it is a piece of fiction. At least a quarter of the $600 trillion in notional value of derivatives is based on home mortgages that are fatally defective, where liability is in doubt and the amount demanded is far off the actual amount due after set-offs due to the borrower under law.
The only thing left for the mega banks to do is to try to push a legislative reset button, even if it is illegal, immoral, and unconstitutional. They want to scare the hell out of us telling us that if we even touch their system, another 130,000 jobs will be lost. It is is now well-established that this was a planted article with absolutely nothing to back it up. Johnson hits them where it hurts in his comment (see below).
By SIMON JOHNSON
Simon Johnson, the former chief economist at the International Monetary Fund, is the co-author of “13 Bankers.”
On Capitol Hill this week, a serious debate is under way about whether to carry out an important part of the new Dodd-Frank rules for derivatives – with hearings in the House on Tuesday and in the Senate on Thursday.
Much of the discussion has focused on the report produced by Keybridge Research for a group called the Coalition for Derivatives End Users that purports to show the dangers of extending the rules to nonfinancial companies (the so-called end users in this context).
In testimony on Tuesday before the House Financial Services Committee, Gary Gensler, the chairman of the Commodity Futures Trading Commission, pleased the Republican majority by saying the rules should not apply to nonfinancial companies that buy derivatives but “only on transactions between financial entities.”
Representative Spencer Bachus, Republican of Alabama and the committee’s chairman, responded: “I want to applaud Chairman Gensler. Members on the majority think it’s critically important that we don’t impose margin or clearing requirements on end users.”
Yet the Keybridge Research report – as exposed by Andrew Ross Sorkin in The New York Times on Tuesday – engaged in an extraordinary, shocking misrepresentation, asserting its credibility by claiming affiliations with respected academics who have now asked that their names be removed from the consulting firm’s Web site. Some of those listed as advisers said they had had no relationship with the firm.
The report is, in fact, pure lobbying disguised as research. For their own self-interest, the big banks want customers who can undertake derivatives transactions without reasonable constraints – and these banks want to disguise this self-interest in a veneer of social interest.
Republican committee members cited the report in arguing against the rules.
This coalition for end users does not represent the best interests of such actual end users; rather, it is a front for the big banks that dominate the market in over-the-counter derivatives.
The coalition has no good arguments to back up its assertions that properly implementing Dodd-Frank will result in significant job losses. In fact, as Mr. Sorkin reports, Keybridge has serious credibility problems.
As Joseph E. Stiglitz, a Nobel laureate in economic science, points out to Mr. Sorkin, at the heart of the report is a preposterous argument – that if we subsidize insurance, jobs will be created.
If someone made this point in regard to fire insurance or property and casualty insurance (particularly for American companies, which these days have around $2 trillion in cash), they would be dismissed out of hand. But the mystique – and confusion – surrounding derivatives is such that the material in this report will be taken seriously by many on Capitol Hill.
The only people who can really gain from this subsidy are the bankers who buy and sell derivatives. The actual end users are being duped by the banks. Perhaps you don’t feel bad about that – but such duping is very dangerous for financial-system stability. (See this post by my colleague John Parsons, who cuts nicely to the analytical heart of the matter – and who also dismisses the Keybridge report.)
The acknowledgment by so many firms that they have weak risk models is revealing and extremely worrisome (see Section 4.3 on page 4 of the report).
These firms are apparently relying on the banks to advise them on risk, but the banks have a strong vested interest in a more highly leveraged financial system. That leaves the nonfinancial firms gambling recklessly with their investors’ money. I hope tough questions will be asked about this at annual general meetings and in boardrooms.
The high level of profit in over-the-counter derivatives gives it all away. The real end users should bring in truly independent economic consultants, who can tell them that this level of profit is a clear indication that the market for O.T.C. derivatives is nowhere near competitive.
The end users are being ripped off – and then providing political support to the banks responsible for it. A serious management failure – and the issue of fiduciary responsibility – is clear at the nonfinancial firms surveyed in the Keybridge report.
We are looking at market power masquerading as lobbying on behalf of customers. This would be a laughable combination – were it not for the fact that this coalition did immeasurable damage to financial regulation last year, and is dead set on further undermining Mr. Gensler and his colleagues at the C.F.T.C. in the coming weeks.
We need responsible restraint in the over-the-counter derivatives market, in the face of the banks’ fierce determination to prevent this.
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