The problem with this is that it's not the investment banks that were the source of the crisis. The world economy is not in the toilet because of some derivatives bets. The world economy and banking system is in the toilet because *banks lent huge sums at high leverage for people to buy massively overvalued housing with little collateral or cashflow to back it up*. It's the dowdy *retail banks*, and homeowners who are the primary cause of this bubble. Just like in 1999 it was the retail investors who caused the tech bubble. Splitting investment banks and commercial banks would have done *nothing whatsoever* to prevent this crisis. I can tell that almost all the financial establishment are economically illiterate, because they keep talking about cosmetics. Uptick rule this, SEC that, Glass Steagal, short selling, stimulus blah blah blah. Yet no one mentions the elephant in the room - all this happened because of a gargantuan housing bubble, funded by retail banks and John Q Public. If something is worth $100k, and speculation puts it up to $200k, and then someone buys that $200k asset with $20k down, then when the bubble bursts it is not going back to $100k. In the way bubbles work, it will go down to $50k - it will become really cheap. The $20k deposit speculator gets wiped out. And his lender will lose $130k. The US, and world, financial system just did this on a grand scale. They bought houses at $20 trillion, with $2 trillion down, and the houses are gonna be worth $5 trill before it's all done, leaving a $13 trillion black whole in the financial balance sheet. What on earth has that got to do with Glass Steagall, derivatives, or depositor bases? Absolutely nothing. It's like blaming the dot.com bubble on a Henry Blodget report. These people need to get a clue.
Thanks for the sound analysis but something I don't get. Banks made loans to unqualified people, and construction people or home sellers got the same amount of money in their accounts, minus fees and broker expenses. So, up to this point, nobody is hurt. Then, banks wanted to transfer the risk to speculators and hired investment banks that packaged the loans and sold then as securities, often with a capital guaranty, to investors. If as people say those derivatives were overpriced, the money investment banks got from investors around the world exceeded the amount those loans worth. Normally, the money should have gone back to the banks to repay the loans, since the risk was switched to the private investors with those derivative products. If this is correct, then the banks should have no problem at all unless the investment banks did not pay them. A big question mark remains: where did the money go from the sales of derivative products? Do you agree with my analysis or am I missing something cutten?
Cutten, you say the (cause) of this big world mess is retail banker and homeowners. One lends money to people with no money, and one borrowers money they can not pay, right? Maybe that is how it started, but the amount of money for the loss is much much more than what was lend to the people, and what is not being payed back. They start the bet, but if that bet was played out alone, losses would be much less, and no global. When the small bet becomes bigger bets through packaging and selling, and buying on leverage, then the creation of derivatives to make more bets on the bets, and insurance on those bets, all this with no one to say it is false assets. Everyone sees a way to make money, and runs away. The cause of the big loss of money is not retail and homeowners, it is how that small bet was made into big bets because no one is watching.
This makes me wonder how bad this would be if the loans given out like candy were not packaged as derivatives and then leveraged up the wazoo. What if these bad loans were made the old-fashioned way, with banks holding the loans to maturity? If all the subprime defaulted the same way, how bad would it be in that case compared to how bad it is now?
Perhaps I am mistaken, but would not the banks have been at least a little more circumspect if the junk mortgages were not securitized and parceled off by the investment banks who then sold these turd clusters to "sophisticated" investors, who in turn "insured" against loss by participating in unregulated credit default swaps? Therefore, were not investment banks effectively the subprime mortgage lendersâ single most important source of capital? http://subprimer.org/content/investment-banks-provided-subprime-lenders-critical-funding
There was a reason why the federal government separated commercial and investment banks after the Great Depression. About a year ago, I discussed the need to bring back the Glass Steagull reforms. http://hingefire.blogspot.com/2008/04/bring-back-glass-steagall.html
this thread is ridiculous and volker is turning into a dunce in his old age if there was not just a citbank, but a citi retail and an investment bank, the inv bank would have lost just as much money and would still have cost the taxpayer just as much bailing out the inv bank. we would have saved NOTHING all this talk about separation of the entities and phill gramm being responsible is just libtard pass the buck and deflect to distract people from their role in forcing financial institutions to make loans and gse's to guarantee them
You have a point. Going back to Glass-Stegal by itself is not a solution, but I think it is part of the solution. We have to recognize that the prevailing culture of this country is now that no one should have to suffer, ever. Doesn't mattter if they were irresponsible, ie subprime borrowers, or if someone else was, eg bank depositors. The plain fact is that politicians are just determined to appear that they are "protecting" people. The more thoughtful ones understand that this will only delay clearing the system, but they figure that is someone else's problem. We have to redesign the system with that giant moral hazard threat in mind. To me, that suggests a two-tier system, as Volcker suggests. One is traditional banking, taking deposits and loaning money, as Taleb calls it the utility function. This type of institution will have full government backing and, as a consequence, must be heavily regulated. No more assets that can't be valued. The traditional investment banking function will be less regulated but at the cost of no explicit or implicit government backing. The key to making that stick is to make sure they can't get themselves into a position where their failure would create a major crisis, ie no more Lehmans. That means some products, eg CDS's, are outlawed, and others, eg OTC derivatives, become regulated by someone. Maybe OTC derivatives are outlawed altogether.
Exactly right. GS was based on a false premise in the first place. The banks were accused of doing something they weren't actually doing. This whining about the "repeal" of GS is utter bullshit. The meat of the legislation was that banks were not allowed to use deposits to gamble in the markets. That part of the legislation is still in place and always has been and wouldn't have prevented any of this decline because lending money to buy houses is a core business of retail banks. The only thing that has changed is that the same holding company may own both a retail and an investment bank and the reason they allowed it is that every other bank in the world allows it. Our banks couldn't compete against foreign banks. Between the calls for arcane trading restrictions, strangulation of banks with new idiotic regulation (but not the removal of idiotic capital requirements) and Sarb-Ox, the United States is on the fast track to becoming a banana republic.