That didn’t last long

I have been thinking that CDSes need to be moved to exchanges or at the very least require them to be handled by specialized clearinghouses, but now I wonder if CDSes are one of those markets that can’t really exist, and we’re just learning it the hard way. In a textbook world, someone who needs to hold a lot of bonds (a pension fund) could use CDSes to insure against bad luck. The effect of CDSes have not been as insurance, but instead to allow systematic risk to be concentrated in big market players, which means a systematic credit event imperils the whole system.

“Having reached this point, it’s hard to see how the US can turn back from a massive extension of financial regulation […]”

Even if McCain wins? Really? I don’t see why they can’t just keep privatizing profits, socializing losses, and printing as much money as they need to do so. Why not just guarantee, say, a 20% instant return for anyone who can raise the cash to buy a $100K bond? One per customer per year, please. That would quickly inflate the dollar while giving the rich proportionately more of them. Perfect.

“massive extension of financial regulation”

Perhaps why it seems some of JMc’s base are turning on him; they know they look funny in lipstick and want the other team handling the pigskin for a while. But at least JMc will have a 9/11 style comission to get to the bottom of it all somewhere around 2011. I’m sure Phil Gramm will get to the bottom of it and recommend the new regulation be less regulation. I think he prefers Bourjois Effet 3D Lipgloss Cell Phone Charm in Les Nude – Rose Mythic 20 in anyone was wondering. Buy soon, it’s imported.

“where does the money come from?”

Infrastructure, edumacation, your children’s children. Though perhaps they could arrage a few more sales of bunker buster’s and fighter jets and take a higher commission fee.

That money market fund news is not good. But they’re talking about paying 96 or 97 cents on the dollar. Obviously disappointing, but we’re not talking about a serious hit to anyone’s savings. It’s only these highly leveraged bastards who suffer substantially from those types of losses.

What Rich said in #3; of course the US can turn back from a massive extension of financial regulation.

The assumption here seems to be that somehow the politicians made a honest mistake, it now became obvious, and therefore they will have to change their ways.

In fact, politicians only do what their constituency (large corporations, mostly) wants them to do, and they will continue doing it. This is how ‘representative democracy’ operates.

Will their constituency demand “massive extension of financial regulation”? Seems unlikely.

I think the bigger question is whether ‘strong regulation’ will become an accepted normative value in US politics going forward in the same way that ‘de-regulation’ was in the Reagan/post-Reagan era. Remember Al Gore smashing an ash-tray on Letterman, and boasting about the number of pages he and Clinton were gonna cut from the federal regulations? At the time it seemed obvious that getting rid of any rule was, objectively, a good thing. Perhaps now we’ll see the reverse (‘we need regs to protect your savings.’)

Personally I’m somewhat hopeful about this. Even McCain is talking about getting rid of ‘patchwork regulation’ the implication being he’ll replace it with something simpler, but stronger.

The US Treasury doesn’t seem to think China are lending them much more money recently:

Major Foreign Holders of Treasury Securities

I’m suprised that anyone would think that this might lead average American to eschew laissez faire economics in favour of regulation.

The financial sector have had great success in selling the idea that regulation equals socialism, and has great success pushing for policies that are against the best interests of the working man (a la Tom Franks).

It isn’t necessarily true that government buggers things up but when it does there’s no escaping it and it doesn’t go away. So increased regulation of business may do some good, or it may do some harm, and it’ll probably be captured by the regulated interests almost at once, anyway. In other words, not a panacea and maybe not even a good idea.

I will say that if government’s going to continue bailing businesses out it needs to save the business, not the businessman: otherwise it just reinforces poor management.

Well, talk about getting bought at a premium! The Feds just effectively bought AIG for ~100B, or 10X valuation.

So, who’s to say whether the damage to the economy had AIG failed have been worse though? If AIGs crash had caused enough damage to the economy that it shrank by 3% the U.S. (and their taxpayers) would be out more than they just paid for AIG. I think (I’m doing number from memory, calculating as I type).

Still, you sort of wish that some pro-regulatory type at the Fed or Dept. of Treasury (not likely, right?!) spent at least a few hours saddlebagging (thank you, Tom Wolfe) the execs at each of these firms. Hell, that they continue to do so…

Of course the other thing to note is that if these emergency loans are similar in structure to the ones the Bank of England makes, they are the first in line to get repaid before any other debtors, which allows the government/BoE to intervene in very risky situations without losing public money – as the risk is mostly pushed down onto other creditors of the at-risk company.

Stuart,

Well, OK. The Feds are only “buying” them if they can’t pay the debt–but the equity option is very favorably priced, right?

Which raises question: Why would you back up an $85B loan with an 80% equity option in a company worth $10B, when as a lender you have all the leverage in the world (saddlebags!)? I can think of a few answers (signaling strength to the market/creditors, at the top of the list), but curious to know if anyone out there has a, you know, smart one.

“UpdateBrad Setser has the same reaction.”

The link doesn’t work – it leads right back to a nonexistant CT post.

John Quiggin:
” The constituency is not just Wall Street. The rest of the business sector has never exactly loved the finance guys and aren’t at all happy seeing them being bailed out while manufacturing has been left to the mercies of the market. And, while it’s mostly safe to ignore the voters, ignoring the low-probability high consequence case of a backlash is exactly the kind of thinking that got Wall Street into this mess.”

To add on to what others have said – the reason that the financial community has gotten such good treatment (for the past 20-30 years, and now) is that they have serious political clout, clout which the manufacturing companies don’t seem to have since the 1970’s. Perhaps because the manufacturing companies’ clout works well in parallel with strong union voters in the middle and working classes, the people who’ve gotten f*cked for the past 30 years. With the eager help of those same manufacturing companies.

Meanwhile Wall Street corporate interests are nicely aligned with the interests of people pulling down $200K – $100M/year.

We might see real change, but any real change would be a very radical thing indeed, bucking the trend of a quarter century. I expect merely potemkin changes, with the only real change being that the Fed guarantee to Wall St firms is now explicit – but only if the firm is big enough to pull a Samson is now explicit.

I wonder about the incentive effects on firm mergers in the next decade – size is valuable, but mega-size carries that extra value of a Fed bailout backing you.

Welcome to the USSRA (United Socialist State Republic of America) comrades.

the Feds haven’t bought AIG at all, they have extended it a line of credit.

It’s a stealth bankruptcy. The FED loaned AIG money to stay in business long enough to liquefy it’s assets. The FED gets whatever is left. Next up — Washington Mutual.

But I am kinda wondering: where does the money come from?

The same place that all magical ponies come from.

Walt,

It wasn’t clear how the deal was structured from the NYT article–just that they received convertible warrants for 80% of the company in exchange for the $85B loan. So, yeah, now that I think about it more, if the warrants are priced at today’s stock market price and they have anti-dilution provisions, then: Feds did, in fact, give the AIG shareholders the saddlebags treatment (while also overpaying for the deal and preserving, potentially, 20% of the existing value for current shareholders).

“The devil is truely in the details.”

Trickle down at work. Something not really widely discussed yet is the increase in burden on the other governments, the state and local ones that bought in to these ‘innovative investments’ with dubious diligence based on a hyped marketing and with yawns from the regulators and ratings folk. The burden will be much greater than what those who have the option of printing money have bought US.

A general request:
The big websites left and right TPM etc. are being swamped with visitors, mostly idiots who don’t know a damn thing and usually don’t care, who are now scared and looking for information. They’re the undecided and embarrassing it is to the human race, they are the one’s who will decide the election.
Stop chattering with your depressed friends. Go to Megan McArdle or Hot Air or Patterico or any wingnut blog with comments. You take a shower when you’re done.
It’s not for the regulars its for the clueless idiots searching for something to hold on to. Bring facts and figures and the ice cold will to punish

And with all do respect, don’t hang out here and wait for the election to be over. Obama may suck but he’s all we have.

And that’s what I meant by saying that the incentive to get big has changed; it’s not sheer size, or diversification, it’s getting ‘Samson big’. Being able to take things down with you now carries as close to an explicit government guarantee as is possible under any likely US political system.

IMHO this also *should* mean that mergers are heavily scrutinized, with the bar for ‘too big’ being set at a very small percentage of *any* financially significant market (e.g., if a merger would produce a company which would be ‘too big’ in a single state, that merger should be blocked).

See, where Boeing and Pfizer fucked up is that they didn’t make it so that if they went down they would take everyone else with them. That’s why financial people get the big bonuses.

I seem to recall Boeing as being a relatively well armed entity that more true Patriots would call ‘too big to fail’ than them money pushers on wall st. Could we really survive going forward without ABL’s? Pfizer, well one could bottle waste water and get their wares free for a while then do the mail order to Canada end run. Conoco Phillips, Hugo would buy them up in a heartbeat, though would face some stiff bidding from Ali al-Nuaimi. I guess what I’m getting at is some Hydra’s cut up easier; and taste better too! Maybe the AIG bail/buyout is the first step in the R’s secret plan to offer socialized life insurance. Think about it. After all those welfare payments they deserve to get something back when we pass.

The regulatory failure is in letting them get too big to fail in the first place: mandated split-ups

That sounds good to me. Should they be split up on a case by case basis, or should every corporation that’s too large be split up?

Can we make a rule that applies everywhere or should some industries be allowed to have bigger corporations than other industries?

Should they be limited by number of employees? By cash flow? I’d be inclined to limit the number of employees. Make them split ibto smaller corporations that have contractual relations, renegotiated frequently.

That would help a variety of things, but would it help the current problem? I see it as gambler’s ruin. Lots of individual managers saw the chance to make good profits by taking small risks of giant losses. Any given year the risk paid off and they made their profits. Anybody who didn’t participate fell behind. Then there was a big shock and the risk hit everybody at once. What can help with that? If it had been hundreds of thousands of tiny companies taking the risks, they’d have still done it.

Unless you can quantify the risks, how can you say they’re a bad thing? Would it help to forbid any financial instruments that are hard to understand?