One bank in the US, JP Morgan, has exposure to the derivatives market of 93 trillion dollars - yes, that's trillion. As a ready reckoner, it's closing in on the entire world GDP for two years.
RBS has been in on the same stuff, dabbling in what was recently the very lucrative game of derivatives insurance. Due to leverage, it's massively profitable as the market goes up. For the same reason it's massively painful if, when, the market turns.
There's a fair chance RBS are facing a tsunami of margin calls, and since they're "too big to fail", we carry the can instead. Not right away, but slowly, step by step, the burden is shifted onto the sheeple.
Free market capitalism, red in tooth and claw? Not for the banks.
The irony here is that we have clueless Darling fronting the battle against a future recession/depression directed by Brown, so unbelievably stupid that he declined to go for an early election when he had a chance of winning. This at a time when anyone up to speed with the sub-prime crisis in the US must have seen all of this coming, and the likely effect on Brown's re-election prospects further down the road.
This is nothing new, and politicians always pick the easy way out (otherwise, OK, journalists with mortgages will say why don't you do something). Creative descrution in a free market capitalism is painful, but it is the pain that ensure that prudent shows up in every single decision.
But, our caring society don't want to see people losing their home (funded by 100% mortgage) or people losing their jobs. And to be fair, those bankers with millions in offshore account will do just fine if HMG does nothing. It is the little people, uneducated financially that will suffer. Creative descrution requires this suffers to occur - but of course, it is too painful to take, so we avoid it.
This will not cost taxpayers anything close to £50bn in the end. A few £bn is absolutely maximum. More likely, nothing (err.. but of course bank customer's are taxpayer right ?) as bank will raise charges and fees to make enough profit to get them out of the mess - the big banks just need some time.
Not something I like, but I think this is what most little poeple with mortgage up for renewal would want.
There is only one thing to do - follow the money...some bank shares are probably worth a lot more (if they don't go bust due to short term squeeze).
Amazing isn't it? All those years bashing the Tories over 'Black Wednesday', which in fairness probably would have been much worse under Labour anyway.
But what did that cost us? Some £27bn in foreign reserves (much of it regained) leaving us will a total loss of what, £4bn?
Could this be Labour's Black Wednesday? I wish it were, we could perhaps afford the relatively minor losses and even have a happy outcome... sadly, I think this is going to cost us all very dearly, very dearly indeed.
Where are all these billions coming from? The printing presses? Cue massive inflation.
The details of the plan is not yet known but it is unlikely that the money supply M2,3 would be increased by 50bn, and hence the massive inflation you talk about (ok..even if it is 50bn, that is 5% of the GDP..massive..no..the M3 has been growing at double digits all the past few years anyway).
What is likely to happen is:
(i) Government issue new treasury debt to BoE.
(ii) BoE credit HMG account with £50bn
(iii) The money probably stays there (or spend thrif Brown could spend it, but as it is only for 1 year, it probably stay there earning interest).
(iii) The BoE can also sterilised the increase in money supply by selling other treasury bonds on its book into the market to extract liquidity (although this is not necessary for now)
(iv) Now, the BoE will take say £5bn of these 1 year bond to, say RBS and swap it for £10bn of MBS. (margin of safety/haircut). There will most likely to be an obligation for RBS to make up any shortfall shall those MBS goes bad (and remember that RBS will be cash rich in a few weeks after the right issues) [MBS = mortgage back securities]
(v) Now RBS can take the £5bn of bond and do a repo with HSBC (HSBC won't lend a penny to RBS £10bn MBS) in the safe knowledge of knowing that if RBS defaulted on the repo, the bond will be honoured by the HMG.
So at least this inter bank lending market will be kicked start again and also gradually reactivate the mortgage lending market.
Hope this make sense.
Hi Steven
You're absolutely right that lending the banks £50bn doesn't mean we've necessarily lost £50bn- in terms of capital we only lose the bits that go phut.
And let's hope the BoE insists on a severe haircut when it comes to calculating collateral values (50% sounds like a good starting point).
But we are going to be swapping our high quality liquid bonds for their dubious illiquid assets (I've read they might even include unsecured credit card receivables). I just heard BBC Peston say that these swaps are not going to attract a penal rate, which would imply a big taxpayer subsidy.
On the monetary implications, although you're right in theory that the Bank could sterilise the operation, £50bn is quite a lot of liquidity and in practice I reckon it's bound to give a further upward push to monetary growth (broad money is already growing at 12%pa).
Bye bye sterling... ie all of us will be paying some of the bill via yet higher prices for imports.
Not a good way to start the week.
Hi Wat,
"higher prices for imports". Most probably, but certainly higher UK bank fees and charges to 'help' the banks out !
Commenting by HaloScan
