Understanding the Financial
Banks vulnerable as 'rotten' foundations
(CNN)-- From pubs in London to bars in New York,
everyone is asking the same question: Why
is this financial crisis
different? The answer is simple albeit not sexy.
The rot has set in!
continue to feel the strain until the world's investment banks
can restore the loss of confidence.
investment banks are basically houses built on pillars of
money. Sometimes those pillars are cash, often revenue sharing
obligations; these days pillars are made up of
derivatives, swaps, options and other frighteningly
But these pillars
are the strength that supports not only the bank itself, but
also its debts and liabilities. Under technical rules the
pillars have to be transparent and of a certain quality, so
that investors know just how well propped up the
bank is. In layman's terms -- everyone can tell
"the bank is safe!" If the pillars remain strong
-- the bank stays standing.
What has happened
is that the rot has got into the pillars and no-one noticed. If
they were wooden it would be worms. The very financial
instruments that make up the core of the
banks are questionable.
No-one can say
for certain how much these instruments are worth, if anything.
No-one knows if counter
parties to deals are financially secure and will be around
tomorrow. The very structure upon which banks like
If this was
happening to just one or two banks then it would be a "nasty
business." But it is happening to all the banks -- at once. The
major names have all been taking on these
dodgy instruments and are all now seeking better
quality investments and cash. And of course
those with the cash want to keep it to themselves,
in case they need it -- hence the term credit
Often during a
period of financial turmoil there are clearly definable events
-- oil crises, war, acts of
terror -- which cause a loss of confidence which leads to a
slowdown and possibly a recession.
infrastructure of the banks remains by-and-large solid. The
pillars remain standing. Here the exact opposite is happening. Every event
merely puts dodgy pillars under more strain
and eventually they give way.
This is what
links today's crises with those of the past: 1929 Wall Street
Crash; 1970's Oil Crises; Black Monday, 1987; the Dot Com bubble
bursting in 1998. In all cases it wasn't just a
turn of the economic cycle gone wrong, it was a
problem at the very core of the financial system
size and scale meant everyone was affected and from which
How will this
play out? Badly!
the financial pillars can be rebuilt then there is little
anyone can do but watch some banks get rescued,
while others collapse completely.
above report one might conclude that the financial pillars
cannot be “patched up”…
they must be rebuilt.
Efforts over the
last few days by governments are laudable, but (in effect)
printing more money to
the situation might create an even greater
is, if the new pile of “paper” doesn’t smother the flames, it
may ignite and carry the
firestorm right back up-line to burn down the “printing
At best, even if
visible flames are smothered, smoldering should be expected to
continue until a new outbreak takes place.
The problem is that, for world currencies to
function properly, they were detached from real-world
back in 1972 when
President Nixon took the USD off the “gold
As long as
monetary transactions continued to be played out primarily in
commercial markets, that
was a good thing – commerce provided
the base, finance was a means of
financial markets began to far overshadow commerce, inflated
values of money, revenue sharing obligations, and stocks should not
have been expected to carry the weight when real world
So, we are where we are
and where can we go from here?
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