Tuesday, October 12, 2010

The next bailout: gamblers in the derivatives market?

Washington is working overtime to find new ways to bring the populace to a seething boil. Somehow Congress is able to pass 2000-page bills that are unread before passage that still, in all their length and detail, leave crucial rules to the discretion of bureaucrats.

And so, the next bureaucratic "gift" is the potential for "backstops" (a euphemism for bailout) of derivatives clearinghouses which centralize the trading of derivatives -- bets on the prices of currencies, stocks, interest rates, commodities, bonds, and virtually anything else the wizards of Wall Street can think of betting on.

"Because most derivatives transactions are expected to go through these clearinghouses, they will be 'systemically important' under the law... [which] specifically provides that 'in unusual or exigent circumstances,' the Federal Reserve may provide such entities with a financial backstop,including borrowing privileges.

"Remember this: Financial backstop is just another term for a taxpayer bailout. And the major banks and brokerage firms are the members of the clearinghouses, so a backstop would essentially be for them.

"According to the Bank for International Settlements, the entire derivatives market had a gross credit exposure of $3.5 trillion at the end of 2009. Obviously, even a small fraction of that amount could represent a sizable call on the taxpayers if a clearinghouse hit the skids.

"So much for eradicating too-big-to-fail."

New York Times, October 2