For the book I'm writing about unemployed Americans, I had no trouble finding
accountants, brokers, cashiers, or die casters. Admittedly, I had to go out of
town to interview the die casters. But when I arrived, alphabetically, at
unemployed editors, I had only to look in my address book.
Financiers were further from my life experience than either die casters or
editors. Yet the "do you know anyone who ... ?" method still proved an
effective way of turning up unemployed hedge-fund analysts and bank loan
officers - and within a week at that. It was only when I refined my search to
ferret out unemployed financiers who had actually handled those infamous "toxic
assets" that I hit the proverbial brick wall.
Since mortgage-backed securities and the swaps that insure
them had been the downfall of Lehman Brothers, Bear Stearns, Merrill Lynch, and
the giant insurance company AIG, packs of bankers who worked on them must, I
assumed, be roaming free on the streets of Manhattan. Yet I couldn't find a
single one.
Finally, I phoned a law firm representing Lehman Brothers employees in a suit
for the pay they were owed when the company shut down without notice. I asked
the lawyer if he could possibly inquire among his unemployed clients for
someone, anyone, who used to work with mortgage-backed securities and might be
willing to talk about how he or she was getting by today. "I don't have to use
real names," I assured him.
Many of the unemployed people I'd already interviewed felt so lost and ashamed
that I had decided not to use their real names. Unemployed bankers deserve
anonymity, too.
But the lawyer made it clear that that wasn't the problem. "Most of them were
snapped up immediately by Barclays," he said. He represents other financial
plaintiffs as well, and he seemed to think that the kind of person I was
looking for hadn't remained unemployed very long.
The clues
How could that be? We've heard ad nauseam about mortgage-backed securities.
They're bonds "structured" out of thousands, or tens of thousands, of home or
commercial mortgages. The bond's owner was to receive interest out of the
mortgage payments from all those property owners. He could earn a low 5%
interest if he opted to be paid out of the first money that came in.
(Institutional investors often chose that safe "tranche", or slice, of the
security.) But back when mortgages seemed so safe, a hedge-fund gambler might
have been happy to opt for the last mortgage payments to come in - in exchange
for heftier 7% to 8% interest rates. Of course, that was the gamble. Too many
missed mortgage payments meant little or no returns for his fund.
When last I heard, more than half of US mortgages were held this way, so it was
a reasonable supposition that a lot of people had been employed structuring,
trading, and insuring those bonds. But who in his right mind would touch this
stuff now? While that lawyer sounded like an honest, helpful fellow, I still
wondered whether he wasn't just brushing me off to protect his embarrassingly
unemployed clients.
Soon after, however, I met a bank corporate loan officer who confirmed that his
colleagues on the "structured side" were indeed still employed. In fact, he
thought he noticed a couple of new chairs at their trading desk in the bank's
trading room. "Those damn things" had become so complicated, he speculated,
that the people who put them together were now needed in similar numbers to
"unwind the bank's positions" - that is, get them out of the deals.
That must be it, I thought, and recalled a moment soon after AIG got the last
of its US$182 billion bailout from the government. At that time, the company
braved a massive public outcry to award big bonuses to its top employees,
including those who had created the "swaps" (short for credit default swaps, or
CDSs) that swamped the company. Like so many other companies, AIG claimed that
bonuses were necessary to retain the "best brains", especially those who
understood the credit-default swaps.
These swaps are a type of derivative that was supposed to represent a way of
insuring the very bonds we've been talking about. Here's how it worked - at
least theoretically, at least before the ship went down: On a given bond, say
number 123456, an insurance company like AIG would essentially say to a large
investor, perhaps a mutual fund, "You pay us $7,000 a month and, if you fail to
receive the interest on that bond for, say, two months, then we'll buy the
whole bond from you for the $200 million you paid for it." In other words, it
was a private, custom-written contract to simply "swap" one of those bonds for
money under certain agreed circumstances.
These deals were couched in such terms, rather than as straight insurance
policies, because insurance is regulated and the regulations require setting
aside relatively small amounts of money in reserve in case the disasters
insured against occur. But swaps aren't regulated. Nothing need be set aside.
Here's the remarkable thing: both the George W Bush and Barack Obama
administrations decided that the government would make good on these
non-regulated, non-insurance policies. The costs could be humongous.
Now, here's an even more distressing complication. You didn't have to own the
original bond to buy the swap that was really an insurance policy. An
"investor" could approach AIG and say, "You know that Merrill asset-backed bond
- number 123456? I'll pay you $7,000 a month, too, and if the bond defaults,
then you owe me 200 million also."
It's as if any number of people could buy (or, really, bet on) your life
insurance policy. Or think of a race track where anyone can go to the window
and bet on any horse in any race - and collect if it comes in. (Or in this
case, collect if mortgage payments didn't come in.)
If our government were merely going to cover the original mortgage-backed
securities, the maximum payouts, though large, would at least be calculable. If
50% of the mortgages in the US were, as they say, securitized, and if they all
were to default, that would be a vast but finite loss. But since any number of
people could buy into the swaps on those bonds, the swap payouts could be an
unknown amount that would be many times the value of the real buildings. How
many multiples of reality might that come to? Two times, 10 times, 100 times?
Who knows? Remember, these are unregulated transactions.
And keep in mind that the "investment" being bailed out here has nothing to do
with anything in the real world. Neither party to these "me too" swaps owned,
built, or financed the original housing, or anything else for that matter. They
were simply betting on whether a certain group of people would pay their
mortgage bills.
Why our government would underwrite these bets, and why such gambling contracts
are legal in the first place, is beyond me, but as we know, they were placed on
a vast scale. No wonder, I thought, that my swap men were all still employed.
After all, even if there's no work for die-casters or editors, there's still
all that "unwinding" to do by the people who did the winding in the first
place.
The crime
Then I read this headline in the Financial Times: "Strange but true - the
credit specs are back." According to the column that followed by John Dizard,
"Thanks to the Geithner Treasury's policy of reform, rather than dissolution,
CDS trading has regained a vampiric strength that the real economy still
lacks."
So, now I understood: the man I couldn't find, the man who wasn't unemployed,
wasn't just doing that final bit of unwinding or cleaning up old messes. He was
busy making new ones!
How could Dizard be certain, though, that the debt trade is really booming
again? He cites "one friend of mine in the credit fund trade" who has "made
money on both the downside and the upside during the past year."
Of course, who can know for sure? If there was a derivative exchange along the
lines of the New York Stock Exchange, we'd have a good idea of the volume of
the trade. But derivatives - I know you've heard this more than once - are
unregulated.
Obama's recent white paper on financial reform suggests that derivatives
should, in fact, be regulated, except for what it refers to as "custom"
products. That, unfortunately, sounds like just the right-sized loophole for
the financial instruments I've described. And - I'm sure you won't be surprised
by this - financiers are lobbying furiously to expand that hole.
The motive
0 Why is there such an interest in reviving the debt market and why are
financiers so determined to keep it unregulated? Aren't they scared of it, too?
Let me quote Dizard one last time:
"After all, if the dictates of style and tax auditors say you have to go easy
on conspicuous consumption, and if there's no demand for the products of real
capital spending, then you might as well take your cash to the track, or the
corner credit default swap dealer."
In other words, people are speculating on derivatives and derivatives of
derivatives because there's no action in the real world. You can't invest in
new real businesses or lend money to old real businesses for expansion unless
people can afford to buy the products they'll produce. That brings me back to
where I started: our real world. You know, the one where just about everyone's
unemployed except those swap guys.
Barbara Garson is the author of two classic books about work: All
the Livelong Day: The Meaning and Demeaning of Routine Work and The
Electronic Sweatshop. She's the author of several plays, including the
Obie-winning children's play The Dinosaur Door and the Vietnam-era play
MacBird. Her latest book, Money Makes the World Go Around (2000)
described the hollowed-out global economy that was heading for a crash. Now,
she's embarked on a book about the current great recession.
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