Financial Crisis

Would someone knowledgable about this care to explain to the rest of us what the hell’s going on?

The essence of the matter is this: in today’s financial system, the people who have power are not the people who merely have a lot of money, but the people who <i>print</i> the money. The right to print a reserve currency is something so important that countries will fight to the death over it.

For years now, the dollar has been pretty much the only reserve currency for the entire world. (The euro was intended as a competing reserve currency, but it’s not there yet.) This gave an overwhelming competitive advantage to American banks in the two most profitable areas of finance: insurance and investment banking. The reason is that, during a difficult time, American banks could always rely on the American government to come and bail them out by printing more money. But a foreign bank would not have that option – it would have to scrounge up that same amount of money from private investors, and even if it got help from its own government, the government would have to take the money out of its pocket, it wouldn’t be able to just print that money. Therefore, all other things being equal, a foreign bank would find it extremely difficult to compete with an American bank, solely because the American bank is backed by the centre of emission for the currency that they both use.

Another great advantage of currency emission is that it attracts investments from people who have no reserve currency of their own. Furthermore, political instability in foreign countries benefits American banks, because foreigners come to believe that their own country isn’t stable enough to invest in, so they put their money in American markets instead. When the political elite of a country believes this, and invests its own money in American banks, then the American government can exercise great influence over what that country does.

For all of these reasons, the entire world invested all of its savings into American markets. China and Russia amassed vast dollar reserves. Foreign investors were often discriminated against and prohibited from buying up serious assets, but they continued to put their money into American markets even on unfair terms – because they believed that American markets were the only ones large and stable enough to handle that amount of money.

Thus, American banks could obtain huge profits much more easily than their foreign competitors. They had the government to save them in case something went wrong, and they had piles of foreign investments to underwrite their every whim. But this caused them to become arrogant. In an effort to increase their already huge profits, they began using this unlimited credit to trade in blatantly worthless assets, like the “subprime mortgages” – housing loans given to people who obviously had no way to pay them back.

The banks knew from the beginning that the subprime mortgages were worthless. But Chinese investors were desperate for something to invest in, and they weren’t allowed to buy better assets, so the banks sold them bad assets, and promised huge returns. When credit becomes too readily available, this tends to attract speculators who want to make a quick buck on the stock market, thus creating a “bubble.” This also allowed some people working for the banks to commit fraud – they would buy some of these worthless “high-risk” assets, and then pay themselves high interest rates with the bank’s money.

The banks insured these assets, to make them more attractive for foreign investors. They were so confident that foreign investors would give them their money forever that they were willing to insure anything, and assumed that there’d always be enough money to pay for it. But when the bubble popped, there were so many worthless assets that the banks couldn’t pay the insurance on all of them.

At the same time, the government accumulated tremendous debts. The government needs a lot of money for the neoconservatives’ precious wars. But the government only has two ways of paying for something: 1) raise taxes, and 2) print or borrow money. Obviously option 1 is extremely unpopular with the public, so that only leaves option 2. But currency emission also has its drawbacks. Printing money is like a pyramid scheme – it gives you a quick and easy way to solve your immediate problems, but in the long run, it creates inflation and devalues the currency.

So as a result, the government and the financial system owed a lot of money to foreign investors. Furthermore, the government also has fairly extensive obligations to American citizens, in the form of all the services provided by the government at different levels. Eventually, foreign investors became very uneasy and started to question the US government’s ability to pay them back. But the financial system heavily depends on having access to the entire world’s savings! If foreigners stop giving money to American banks, then American banks won’t have any money with which to pay their obligations. They’ll run to the government, but the government is itself in debt to everyone! If the reserve currency becomes unstable, the entire pyramid scheme can collapse.

When people decide not to invest in the sole reserve currency, they don’t know what to invest in. There are no other reserve currencies, so no stable money. So, in that situation, people tend to buy commodities, like oil, or rice – and this, in turn, comes back to hurt people who hold the reserve currency, because it raises the price of those commodities. For example, the food crisis that occurred earlier this year was entirely a monetary issue. Rice harvests were high, more than enough to satisfy demand, and yet shortages occurred throughout the entire world. Why? Because foreign investors became uneasy about buying dollars, so they stockpiled rice instead of selling it for dollars. The price of rice went up – and as a result, the countries whose currencies are tied to the dollar became unable to buy it.

The easiest way to fix the crisis would be to allow foreigners to recapitalize the financial system – that is, let them buy the failed American banks. The foreigners would shoulder the losses, but in exchange, they’d be allowed onto the American market on fair terms, and they’d be able to buy whatever they wanted. This would be tough on the remaining American banks, because they’ve coasted on the power of currency emission for so long that they’ve forgotten how to compete. However, the US would continue to be the market for the entire world’s capital. And it would work quickly, because the world still has a lot of cash to invest, and they still want to invest in America.

But it seems that they won’t do this. American financial elites would have to give up their dominant position, and the American government would have a much more difficult time dominating the world, if the world was allowed to be an equal partner in the American economy. Then, the only other solution is to find an excuse to write off American debts. That is, to simply refuse to pay them back, to confiscate the foreign investments. There would have to be a large enough crisis to provide an excuse for such extreme measures – in other words, a war. The Bush administration’s anti-Iran rhetoric has cooled a little, but both presidential candidates have advisors who advocate war with Russia, using American sock puppets in the former Soviet republics (e.g. Georgia) as proxies. That would be a catastrophic scenario.

Which is why the recent nationalization of American banks is of vital importance. It is an unprecedented government intrusion into the market – the bailout proposal that was made public expressly states that the decisions of the Secretary of the Treasury can never be subjected to court review! Simply paying the banks’ debts for them doesn’t solve the problem, because the government itself is in debt. But the real question is, will the government honour the obligations that those banks had made to foreign investors?

And if you ask Lou Dobbs, he’ll say the Mexicans are somehow involved.

I’m plain amazed at the fact that there are actually people thinking that a war with Russia would in any way or form be a good idea at this point. At any point.

The Communists must pay! We can’t let it spread! If communism spread everything would be ruined, so we have no choice, but to fight the Russians to stop the spread of evil that is communism! Communism is the bane of the world and it must be stopped.

However, in all seriousness, with Iraq and Afghanistan going on, a war with Russia would be especially bad (it would already be bad, it would just be much worse). What is going on right now is exactly why just letting the market run itself with no government intervention is bad thing. It bugs the crap out me talking with guys I work with and hearing them say that we need to cut taxes (especially for big businesses). A lot of the guys want taxes to go even lower and say if you lower taxes, prices will go down and salaries will go up. When I tell them that businesses will just roll with tax cuts and enjoy the money and not filter it down, they think I’m crazy. They have some crazy idea of rich and benevolent businessmen. They say that businesses can will use whatever money they get to create jobs, which is only true if it’ll be beneficial to them, if not then they’ll just keep the money. This is a perfect example of businesses using the system for their gain. It’s like, yeah leaving them market alone is a good idea, but it still needs regulation. it is the same reason we have laws (sort of like regulation for people). SUre it’d be nice to not have the government say what you can and can’t do, but it is needed for society to function and work, and the same goes for the economy. You need the government to keep an eye on things and keep things in check.

Although the real problem is the Mexicans, just no is brave enough to say it…just kidding.

Or a war on ANYTHING at this point. I don’t think we have the financial security to attack a 12-year old’s birthday party at this point. :stuck_out_tongue:

Also, LOLcats:

The easiest way to fix the crisis would be to allow foreigners to recapitalize the financial system – that is, let them buy the failed American banks. The foreigners would shoulder the losses, but in exchange, they’d be allowed onto the American market on fair terms, and they’d be able to buy whatever they wanted. This would be tough on the remaining American banks, because they’ve coasted on the power of currency emission for so long that they’ve forgotten how to compete. However, the US would continue to be the market for the entire world’s capital. And it would work quickly, because the world still has a lot of cash to invest, and they still want to invest in America.

Haven’t they begun to do this, though? I heard that the Japanese government bought 20% of a prominent U.S. bank(AIG, right?)

I hope they have. My question, though, has to do with the obligations that these organisations have already accumulated. For example, Fannie and Freddie borrowed huge amounts of money from the Chinese and Russian governments. It’s impossible to say how much exactly, but Russian analysts conjecture that it may have been 1/3 to 1/2 of the Russian government’s entire “stabilisation fund” (effectively the entire country’s savings). China has even larger cash reserves (China and Russia have the largest cash reserves in the world), so they could have lent even more than that. My question is whether the US government is going to honour these debts. That is <i>very</i> unclear. The bailout plan states that any decision made by the administration can never be reviewed by a court, and Bush’s recent statements about how the bailout is “not aimed at preserving any individual company” appears to indicate that he <i>won’t</i> honour those debts.

With all the money that we have been borrowing from Russia and China, I don’t think it’s looking too good for us in the future. Even then, even if we do find a way to pay them back, we’d have to stop warring with countries and that ever unkillable idea of Terrorism. (Easy to kill people, but not so much their ideas.)

Also, what the hell is with the decisions of the Secretary of the Treasury not being able to be reviewed? I don’t really keep a good track of politics, but that just sounds incredibly messed up. That can lead to a serious misuse of power without even trying. I really have to wonder why the hell they come up stuff like that when they write those proposals…

The real question is not whether the US government will “find a way” to pay back Russia and China (the easiest and most obvious way is to let them recapitalize the system – they shoulder the losses in exchange for full access to American markets), but whether it has any intention of ever honouring its debts in the first place.

It was in Paulson’s original proposal, described here:

The bill would prevent courts from reviewing actions taken under its authority.

I imagine a bill being said to be immune from the courts would have the provision declared unconstitutional. At the very least, the Supreme Court would have jurisdiction over it.


The situation is simple, at least so I think. Over the past 10 years, the US has had a very low interest rate for borrowing, flooding the market with money.

Further flooding the market with money were all these people in foreign countries putting their money into the US investment system by investing into banks that would sell mortgages.

When you have a really low interest rate, you can make money as a bank by making loan packages and selling them for a very small bit increased. For years, banks and companies worked with these packages and inflated the value of their worth by using these packages.

Since the US housing market seemed safe and seemed to increase in value, it appeared to banks that they could do this ad infinitum. Sadly, the housing bubble burst, everyone panicked and took out their money. This made it so that all these banks that were being funded by investors to fund these mortgages could no longer run their businesses and pay their employees. The problem is that these aren’t small banks. These are some the top companies in the world. If these guys collapse, you have a domino effect and a collapse of our entire global financial system.

The crisis could be blamed to a certain extent on the creation/invention of a strange class of asset called a “derivative”, a kind of financial steroid that has bulked up balance sheets, markets and economies with artificial wealth.

They may be mortgage-backed securities, an investment bond remotely linked back to real people paying off real loans to buy real houses.
They may be credit default swaps, a more exotic kind of derivative which amounts to a bet (dressed up as insurance) on whether any company or organization you care to name will suffer some kind of “credit event” such as going broke or having trouble refinancing a loan.

In 2003, Warren Buffett called them “the financial weapons of mass destruction” and “time bombs”.

The Federal Reserve Bank is liberalizing U.S. bank ownership rules to make it easier for foreign investment and private equity funds as well as other non-banking businesses to take ownership stakes.

I would have to dig out more information about potential foreign buyers of American financial assets, but I know that Canada is fishing for bargains south of the border.
Canada’s banks will make more foreign acquisitions to take advantage of the stronger Canadian dollar; going south is a given, as there’s almost nothing left in Canada, and Canadian banks have been banned from merging since 1998.
Bank of Montreal bought Chicago based Harris Bank; Toronto-Dominion Bank got New Jersey’s Commerce Bancorp Inc., making it the seventh-largest North American bank by branches; Royal Bank’s CEO just mentioned to the shareholders that RB is targeting a consumer bank or wealth management businesses in the U.S.

Just to add a little more humor to the thread (hey, I’m scared, too:)

I guess ‘divide and conquer’ really is the basis for all tyranny. Even in this country, one could argue that the corporations rule by organizing people into Democrats and Republicans and getting them to hate each other, instead of the corporations.

What about the proposed bail out? It strikes me as another Reagan-ish trickle-down concept. The problems have really started accumulating in the middle class with the forclosures and the mortgage problems, so this 700 billion bail out just looks to me like it’s another way of lining the upper 1%s pockets even after they’ve run their corporations into the ground. If that 700 billion went the other way, trickled up instead of down, the rewards would be much more gratifying, but decidedly would take longer to take effect.

It just seems to me that we should be giving this money to the people and let the free market run its course. I have a problem with, in a free market and free enterprise society, to allow failed companies to persevere instead of letting other people take up the cause and start their own companies to try it their way.


I refer you to my previous post. I am typically not fond of trickle down economics but the way I see it, this isn’t trickle down economics. Letting the banks collapse is what the proper thing should be but when these banks sustain the entire economy because the problem is so widespread and entrenched, the consequences are worse than just having a couple bankruptcies and you end up having a domino effect and this destroys the US and sends devastating shockwaves across the world economies.

The US economy currently runs on debt and for as long as the public doesn’t accept that they need to pay for what they want to have, they’re going to need investors to fund lifestyles they can’t afford. My solution to the problem is increasing the tax rate significantly. IMO, this would be good because 1- less debt 2- accountability. The Iraq war would not have happened if it had been paid by taxpayers because people would’ve been up in arms. The tax rate isn’t going anywhere though because the US citizens are allergic to taxes.

If the bailout doesn’t happen and Wall Street defaults, then either the foreign investors will take what’s theirs and integrate themselves in the US market, which won’t happen, or the US will have to somehow pay these people back to keep them out. If the US doesn’t pay em back, the investors refuse to put money into the system and the US economy is fucked since the US is what it is today because of over a decade of living on debt. Giving the investors what they paid for is what the proper capitalist result should be, but this capitalist result clashes with the nationalist tendencies of these same laissez faire republican capitalists. Nationalism vs Capitalism. What you need to be asking yourself is what will happen if you keep pushing nationalism when the economy falls apart. Sounds like 1930s Germany to me.

Ultimately, the US citizens don’t understand what the problem with the economy is and they don’t want to accept that they can’t keep getting a free lunch.

What you want to happen is for these banks to collapse and the investors to seize their assets. Not going to happen. The US nationalized all these banks to keep them in US hands and foreigners away from having any power within the US.

Actually, I think Sorcerer is right in some sense. If you want the government to bail someone out, it would be better to give money to homeowners who are in danger of default, rather than to bank shareholders. And even if you want to retain control of the banks, then let them go bankrupt and buy them at low prices, as indeed was done in the eighties.

The problems are due to the fact that the banks have tons of these worthless assets on their books. The <i>only</i> reason why they cannot sell these assets is because the books list the assets at outrageously high, over-inflated prices. There <i>are</i> many investors who are willing to buy them, but only at a fair (i.e. much smaller) price. But if the assets were listed at the fair price, the banks would be insolvent – or, rather, they’ve been insolvent all along, they’ve just been lying about it. The government bailout implies that the government is buying these assets at an unfair, arbitrary price, at a price that is actually <i>advantageous</i> to the banks! The government is just printing free money to give to banks, essentially rewarding them for their hubris, while driving itself further into debt! That’s like saying, “Sony can’t sell all of its PS3s, so the government should buy all of them at whatever crazy-ass price Sony names.”

The best solution is to let foreign investors buy the banks at their fair prices, then recapitalize them with their own money. Another alternative, I suppose, is to raise taxes and gut the country’s social infrastructure, but that will hurt taxpayers even more, and it’s also not entirely fair to make ordinary people shoulder all the losses created by arrogant banks and speculators. So, the government doesn’t want to let foreign investors intrude on American financial dominance, and it doesn’t want to raise taxes, so it’s looking for a way to write off the debts. Which makes war very likely.

Rrgh. Again, if we assume this would be a war with Russia, now that’ll be just beautiful. The US is having a hard enough time in Afgahnistan (well, the spoils have been pretty much left down there) and Iraq, imagine fighting a country which has a much more evenly matched area, army and weapons. Russia’s military might not be as up to date, but they would be able to put up a fight of the likes the US has never been up against. It would very likely also mean that there would be retailitation, right onto US soil. Not to mention the nukes. A chilling thought to say the least.

It would be absolutely moronic.

It wouldn’t be a direct invasion like the invasion of Iraq. It would be more like the destruction of Yugoslavia. First, the US would fund and train the most anti-Russian politicians and organisations that it can find in the former Soviet republics, like Saakashvili in Georgia or Yuschenko in Ukraine. Then the US would give them billions of dollars in military technology and encourage them to kill ethnic Russians – possibly inducting them into NATO in an attempt to intimidate Russia into not fighting back. Then, these proxies would create chaos along the entire Russian border, and the process would be repeated many times, pushing further into Russia each time.

All the things you say still apply, but the indirect and gradual nature of this process makes many political ideologues (like Zbigniew Brzezinski, a foreign policy advisor for Obama) believe that they can get away with it. It is very disquieting.

Well, Russia’s reaction this summer was intended to show Russia won’t take such shit near its soil. What would the point of such a war be, anyway? Let’s say the U.S. deny to pay their companies’ debt to Russia and Russian interests. Not only do they lose the Russian capital that would otherwise be invested in the U.S. (and Russia has the most millionaires per capita iirc) but I doubt other investors would react well to that, especially the countries who could be next in line. The last thing the U.S. wants is funds leaving the States.

I think we just need to keep borrowing money to the point no-one else has any, either, then we won’t be so poor.