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European Economy in Dire Straits, and the US Too. How So, Why So?

By   Follow Me on Twitter     Message Richard Clark     Permalink
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b) If worst came to even worse, the ECB would make good on the bonds.   (The old central bank bailout routine that Corzine had seen work so well in the USA for the banksters at his old company, Goldman Sachs!)

4.   In 2010, someone from the Commodities Futures Trading Commission (CFTC) recognized these prior deregulations had dramatically ramped up clients' exposure to risk and proposed changing those rules.    But Jon Corzine, MF Global's CEO, successfully prevented the tightening of these regulations.   Had the regulations been tightened as the CFTC intended, it would have prevented the kind of risky bets that lost MF Global's segregated client monies.

5.   None of MF Global's Canadian clients lost any money thanks to tighter regulations there.

6.   Little noticed in this affair is, once again, the gross "incompetency'(or was it criminality?) of the ever-so-cooperative and bankster-friendly ratings agencies.   Had they not been maintaining "A" ratings on Spain and Italy, MF Global could not have made its disastrous bets bonds issued by those countries.

To equity traders, hypothecation occurs when their broker uses client stock holdings as collateral for trading or leverage.   To oversimplify, buying equities with leverage involves pledging shares (collateral) to a third party (the broker) in order to borrow against them.   You still ostensibly own the stock, but the broker (i.e. the "hypothetical" owner) can sell it if you fail to make payments when necessary.   (This is the basis of a margin call and forced liquidation.)  

The rules covering what a commodity firm like MF Global can do regarding hypothecation are governed by two regulations.   Equity and commodity brokers have, for quite some time, been able to tap into client monies to make short-term purchases of U.S. Treasuries.   William Cohan, author of " Money and Power: How Goldman Sachs Came to Rule the World " and " House of Cards ," the story of Bear Stearns's demise, quoted the rule as allowing "obligations of the United States and obligations fully guaranteed as to principal and interest by the United States (U.S.   government securities), and general obligations of any State or of any political subdivision thereof (municipal securities)." In other words, safe, liquid, AAA-rated investments.

Here is where there are parallels to the 2007-09 collapse.   In 2004, the five largest banks petitioned the SEC to waive the net capitalization rules to exempt themselves from leverage limits, which went from 12:1, to 40:1, and boom went the market.

Also, MF Global petitioned the CFTC to deregulate the rules covering customer accounts and segregated monies.   In 2000, 2004 and 2005, the CFTC made fairly radical amendments to Regulation #1.25.   These changes permitted brokers to make a much broader scope of riskier investments using client monies.   Recall that the original rule allowed customer monies to be used to buy only U.S. Treasuries and investment grade municipal bonds.   After the rule was amended, commodity brokers were allowed to buy investment rated "obligations of a sovereign nation."   Other rule changes allowed commodity brokers (including MF Global) to perform "internal "repos' of customers' deposits" -- these were the sorts of off-balance sheet maneuvers that allowed Lehman Brothers to hide $100 billion in debts from investors' prying eyes.

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Such wonderful opportunities for great money making are provided by deregulation!   Is it any wonder, then, that firms like MF Global and Goldman-Sachs spend billions paying lobbyists to "financially' persuade legislators to loosen up or eliminate the regulations?   But how very costly this is to the rest of us!   So, in retrospect, wouldn't those of us in the 99% be ever so much better off, financially, as well as, as a society, if we could get legislation passed that:

a) Made it illegal for members of Congress to take any campaign contribution other than the $50 vouchers which, for that express purpose, were provided to each and every voter, one or two per voter?

b) Took $20 from each taxpayer, each year, to provide for the rest of the costs of the political campaigns of those who compete for a seat in Congress.

The rule changes obtained by lobbyists gave firms like MF Global an ability to re-hypothecate (borrow) client assets, as long as they were used to buy "investment grade sovereign debt."   Amazingly, the speculative, higher yielding distressed debt, such as Spain (AA) and Italy's (A), were still listed as investment grade by the always cooperative (and probably paid-off) credit-rating agencies.

And so it was that MF Global bought distressed paper (risky bonds) from European countries already in financial danger, using supposedly segregated and thereby (supposedly) protected client monies.   And while it did not violate the letter of the rule changes (that MF Global had lobbied for and obtained), it surely violated the spirit of the law.   With the regulations rewritten to include any "investment grade sovereign," MF Global was able to go far beyond the proscriptions of the original regulations:   "A-rated European sovereign debt," despite the fact they were obviously far from being the equivalent of U.S. Treasuries, technically qualified, thanks to the bought-and-paid-for deregulation efforts of well-paid lobbyists in the employ of companies like MF Global.

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This raises a troubling question:   If corrupt and compromised rating agencies had not been paid off, and had done their jobs by downgrading European junk bonds to what they really were, would MF Global have emptied client accounts?   Quite probably not.

Italian and Spanish sovereign bonds should have been downgraded well below "A" a long time ago.   That they were not, merely serves to remind us that these corrupt credit-rating agencies are still part of our overall regulatory system.   And why on earth would that be, except for the fact that our members of Congress can so easily be bought and paid for by lobbyists pulling down salaries of $2 million per year by companies like MF Global and Goldman Sachs.

Why is it that clients of MF Global who live in Canada lost no money in the collapse?   It is because Canada's regulations do not allow client-segregated monies to be borrowed for speculative purposes.   Furthermore, voting and lobbying laws there do not tolerate the sort of corrupt legislative lobbying that is rampant in the United States.   Hence, regulators in Canada are far more independent and less affected by lobbying than are the regulators in the United States.

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Several years after receiving my M.A. in social science (interdisciplinary studies) I was an instructor at S.F. State University for a year, but then went back to designing automated machinery, and then tech writing, in Silicon Valley. I've (more...)

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