Financial Meltdown Puzzle – Another Piece

There are a myriad of reasons out national economy has hit the skids (and is taking down the global economy with it). While Fannie Mae and Freddie Mac are on the receiving end of partisan finger-pointing, they aren’t the entire story. Not even close. They were a symptom, not the cause.

In my quest for knowledge regarding this financial bailout, a main theme keeps emerging: lack of regulation. I’m sure you’ve heard the term.

Well, this weekend, 60 Minutes’ “The Bet that Blew Up Wall Street” gave a very comprehensive explanation of yet another piece of the meltdown puzzle: the legalization of the derivative markets, which basically “allows you to wager on financial outcomes without ever having to actually buy the stocks and bonds and mortgages.” Side bets.

The rocket fuel was the trillions of dollars in side bets on those mortgage securities, called ‘credit default swaps.’ They were essentially private insurance contracts that paid off if the investment went bad, but you didn’t have to actually own the investment to collect on the insurance.

Dinallo (Eric Dinallo, insurance superintendent for New York) says credit default swaps were totally unregulated and that the big banks and investment houses that sold them didn’t have to set aside any money to cover their potential losses and pay off their bets.

‘As the market began to seize up and as the market for the underlying obligations began to perform poorly, everybody wanted to get paid, had a right to get paid on those credit default swaps. And there was no ‘there’ there. There was no money behind the commitments. And people came up short. And so that’s to a large extent what happened to Bear Sterns, Lehman Brothers, and the holding company of AIG,’ he explains.

The derivative market, basically gambling, was illegal for most of the 20th Century. A few lobbyists and campaign contributions later and the lame duck Congress in 2000 – when Bill Clinton was president – signed the bill that reopened the markets for these side bets. Without regulation, there was no body to even track how many of these bets were made or for how much.

I wonder if this next Congress will allow the law to stand, thus continuing to weaken our fragile Wall Street.

In any case, it’s worth having the knowledge and understanding of the role these derivative markets played in the meltdown, so I’m including Steve Kroft’s piece because it truly was an eyeopener. Very much worth the watch:

You can view the video here or read the transcript here.

2 Responses to “Financial Meltdown Puzzle – Another Piece”

  1. 1 Rob
    October 29, 2008 at 4:22 pm


    Good summary of what happened.

    We let Paulson, head of G.Sachs at the time, help push a larger leveraging of the big 5 investment banks, and low and behold, now he’s giving out the money, conflict of interest and just taking in the big picture of who benefits the most says Paulson is in with others and playing a shell game with the American people’s tax money. Nothing’s being fixed with this 5 trillion dollar bailout quite yet, the banks are loaned money and still won’t give it out and instead are sitting on the taxpayer’s money… Senator Dodd even commented that if they didn’t start loaning money, there would be a revolution (proof that they’re sitting on it).

    We gained 900 but we’ll lose it all near the end of the week. There’s not enough stability or confidence and the banks that we’re loaning the money to are just sitting there going “ummmm, nah, I’ll need another 100 billion before I decide to loan out the billions you just gave me…”

    And we’re not allowed to see or hear or oversee any of the bailout process? This is bullshit.

    De-regulation pushed by the same bastard that are now benefitting. It’s not political but more banker-led F’ups.

  2. 2 Providence
    November 1, 2008 at 12:27 pm

    Any FDR fans out there?
    What would the landscape resemble were it not for the New Deal Democrats? Much worse I’ll wager.


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