Posted by
rycK on Tuesday, March 09, 2010 4:09:54 PM
Papandreou Bawls
about Derivatives. Perhaps they are more of a Benefit than a Liability for a Failed State.
Abstract: Greece is seeking either alms
or ‘regulations’ that will end the credit default swap system [CDS] as we know it. Greece complains of high
interest rates because of the ‘insurance’ necessary to guarantee some payments
to lenders if they default. It appears that the CDS system actually offers Greece a lower rate. But,
regulations such as open inspection and minimum capital reserves would probably
mean the end of this derivative. The Greeks are apparently shopping for alms
and they head to the US, of course.
Leftist
governments can only exist on spending other people’s monies and this is an
example of this disease. Here, some
quest for ‘political support’ is being requested.
“Greece is seeking
political, not economic, support, Prime Minister George Papandreou said on
Monday (March 8th), urging the G20 nations to impose more stringent regulations
on hedge funds.
"We're not asking
for money. We're not asking for bailouts," the leader of Greece's left-wing
PASOK party said, following talks with US Secretary of State Hillary Clinton on
the first day of his four-day visit to Washington.”--Greece's
Papandreou calls for stiffer hedge fund regulation Market speculation must be
reined in if a future world economic crisis is to be avoided. [Emphasis is mine in
all quotes.]
Now, the
issue here, obviously, is the extra interest on the Greek debt burden due to
the cost of insuring a default on bonds issued from time to time. There are several cases we could examine in
light of existence of default swaps and other derivatives
from history.
Before
such ‘insurance’ on debt was available in world markets, a bond holder was at
risk of a default or a currency debasement, two favorite avenues for
governments to take when they overspend and cannot meet their debt obligations
as we read in the new book This Time is Different: Eight Centuries of
Financial Folly by
Carmen Reinhart and Kenneth Rogoff. This tome reviews this very process of
overspending, massive debt, bank crises and inevitable defaults that plague California, Greece, New York and other entities and shows that
they are very common in the last several centuries.
In the
30s, bonds failed and banks failed and then governments failed and there was
nobody to cover the debts. Banks closed never to open again. Wealth was lost. In
2008, most banks and some other selected companies were rescued by the central
banks or their equivalent. The fed was reported to have spent around 7.36 to
7.79 trillion dollars [depending on what you think was spent or not] by Nov
2008 on items like these:
|
Government Entity
|
Amount
Allocated in Millions of Dollars
|
Spent/Lent
In Billions of Dollars
|
|
Federal Reserve:
|
|
|
|
(TAF) Term Auction Credit
(allocated)
|
900
|
415.3
|
|
Discount Window Lending
|
|
139.3
|
|
Banks (other loans primary
credit)
|
|
92.6
|
|
Investment Banks (other loans
Primary dealer and other broker-dealer credit)
|
|
46.6
|
|
Loans to buy ABCP (other loans
Asset-backed commercial paper money market mutual fund liquidity facility)
|
|
661.9
|
|
AIG (allocated minus Treasury 40B)
|
112.5
|
87.4
|
|
Bear Stearns (initial loan to
JPMorgan)
|
29.5
|
26
|
|
(TSLF) Term Securities Lending
Facility
|
22
|
200
|
|
Swap Lines (other federal
reserve assets)
|
|
601
|
|
(MMIFF) Money Market Investor
Funding Facility (allocated)
|
540
|
|
|
(CPFF) Commercial Paper Funding
Facility *upper limit from Reuters
|
1800
|
270
|
|
(TALF) Term Asset-Backed
Securities Loan Facility
|
200
|
200
|
|
GSE MBS NO NAME Program
|
600
|
600
|
|
Treasury:
|
|
|
|
(TARP) Treasury Asset Relief
Program
|
700
|
330
|
|
Exchange Stabilization Fund to
guarantee principal in money market mutual funds
|
50
|
|
|
Treasury direct purchases of MBS
since Sept.
|
26
|
|
|
Citigroup (Treasury+FDIC
guarantees)
|
238
|
|
|
FDIC:
|
|
|
|
Guarantees for Banks
|
1900
|
|
|
Other:
|
|
|
|
Automakers
|
25
|
|
|
(FHA) Federal Housing
Administration
|
300
|
|
|
Fannie Mae/Freddie Mac
|
350.
|
|
|
TOTAL
|
3.76 trillion dollars
|
7.79 trillion dollars
|
There was
601 bln in swap lines alone. It is not clear when this money went.
But, the Greeks want this:
“"If we continue to borrow at very high rates
... twice, for example, the rates of Germany, that would be unsustainable within a common currency," he said at a joint press
conference with Clinton.”--Greece's
Papandreou calls for stiffer hedge fund regulation.
This is true as stated, but, then, why should interest
rates be the same for different countries even if they do share a common
currency? IF the credit default swaps were not
in place at this time then why would we assume Greece
would be getting a better rate? Rates are determined by market forces and
credit ratings.
The credit default swap [CDS] is complicated but functions
essentially like this and is similar to insurance:
A wants to buy a bond from B, but the B credit rating is
low or there are other problems so A is reluctant to take the risk. The
interest rates are high because of known or suspected debt. A might take a
bigger risk with a much higher rate. C steps in and offers to cover A in case B
defaults or has other problems such as a restructure or a host of other
variables. Much of this is unknown. This actually lowers the interest that B would have to pay because there is a
market for CDS products and A accepts this as C has taken a small fee to cover
loses to A. Here, B is Greece. Now, A and C are investors, pension funds or
speculators or banks. C might immediately sell its CDS in the markets. Hedge
funds invest here with high leverage.
Wikipedia:
“Insurance contracts require the
disclosure of all risks involved. CDSs have no such requirement, and, as we have seen in the recent past, many of the risks are
unknown or unknowable. Most significantly, unlike insurance companies, sellers
of CDSs are not required to
maintain any capital reserves to guarantee payment of claims. In that respect, a CDS is an insurance that insures nothing.”—Wikipedia [Emphasis is mine in all quotes]
Greece certainly did obscure its debt
and it appears that its defense budget is a state secret.
“Greece has since pledged to cut its 2010
budget deficit by 4% of GDP [from 12.7%] and has imposed a
series of painful measures to deal with its fiscal crisis. But concerns about
the country's massive debt levels have made it more expensive for Greece to borrow funds on the
international financial markets and have pushed up the price of insuring Greek
debt against default.”-- Greece's
Papandreou calls for stiffer hedge fund regulation.
This is the era of ‘regulation’ so Greece and
others want CDS issuers to have capital reserves, be open to inspection and
other regulatory factors. It should be obvious that such measures might
extinguish all profits from a CDS transaction and they would vanish from the
market place. In
that case, why would we expect the interest rates for Greece to go down?
Without ‘insurance’ against a default they would, in my view, go substantially
up.
We cannot trust the Greeks here, as usual given their
record, and the salient facts that their unions are rioting and will set up
general strikes against any and all spending cuts. Even if some cuts were made
[4% is too much and where would the cuts be? Not in the unions we think] the GDP
would certainly drop so any goals to the 4% line would naturally come up short
in a shrinking economy.
Beware of Greeks
Baring Bonds might be a useful slogan.
The Greeks have created this mess and they should pay the
price. The high interest rates, alone, may prevent Greece from
attaining a 4% cut in a year but a return to a 3% deficit is impossible in 3 or
4 years. So, Greece is
looking for a handout and probably from the US in
return for some ‘support’ on other matters. The bond vigilantes are
certainly looking for blood here.
Greece constitutes only 2.5 % of the EU’s GDP
while California is some 10% of the US and the Greek antics look to being
capable of pulling the EU apart so we wonder what effect CA, NY , NJ, MI, IL
and MD would have on the US [25%? or 10X
the size of Greece] if they cannot get loans to close their debts and default?
Notice that ALL
these are leftist governments except NJ that only recently voted out the former
chair of Goldman Sachs. The unions are
ganging up on the new governor Chris Christie like they did Arnold in California. Do
we see a trend here?
Greece, CA,
NY and other states are now just simple financial lepers and
will pull a lot of people down with them as they crash. This is a dance around
the Snake Pit with no solution. The governments in this list will NOT CUT
spending for any reason so they head for default or worse and they may burden
the rest of us along the way. Leftist politics in action. We dare not ‘invest’ in places like this
because they have no hope.
rycK
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