What About Derivatives, Mr. President


President Obama continued his populous screed on Thursday — as a reaction to Tuesday’s Republican senatorial election win by Scott Brown — by further hamstringing Wall Street essentially taking another cup away but still leaving the punch bowl.

The administration announced that financial firms could no longer reap huge profits from hedge funds and private equity ownership while socializing its loses through bank bailouts.

This week’s action combined with the bankers’ tax provision offered up two weeks ago shows the White House does not have a firm grasp on what created this two year Great Recession.


American Insurance Guaranty, Fannie Mae and Freddie Mac did not take put the global economy on life support by making bad investments in hedge funds. Bear Stearns, Lehman Bros. and other financial firms had huge off-balance sheet investments in over the counter derivative bets through collateralized debt obligations and other toxic paper, which began exploding in spring 2008 after the Bear Stearns imploded.

AIG’s $183 billion Uncle Sam bailout along with the Treasury’s $100+ billion dollar propping up of Fannie and Freddie were not result of owning failed private equity funds.

And yet the Obama administration fails to address the 800-pound gorilla in the room, despite hearing testimony from several of the chief executives of the Wall Street banks earlier this month in front of the Financial Crisis Inquiry Commission.

As Goldman Sachs’ chief Lloyd Blankfein testified to a query by commission member Brooksley Born, on the role of derivatives said, “Aspects of the over-the-counter derivative market were a very, very big concern and a big worry, so much so that a lot of institutions — all of the institutions here, I believe — were working very, very hard to make sure that things would settle and that things would clear.”

Born — the former United States Commodities Futures Trading Commission chairperson during the Clinton administration — tried during her tenure to bring transparency to the OTC derivative market only to be thwarted by then Fed chief Alan Greenspan, then Treasury Secretary Bob Rubin, who single-handedly dismantled Glass-Steagall and Larry Summers who is now White House Senior Economic Advisor.

The back-door bailout of the banks by AIG was not over its prop-desk trading losses, but the toxic credit derivatives its London office wrote as insurance for subprime loans.

“Looking at prop trading as something that brought us to the brink in 2008 might be right directionally, but it seems pretty plainly wrong headed to me if it is the specific focus of these proposals,” said Jamie Selway, managing director at White Cap Trading

Selway said the real problem is the government’s “too big to fail” policies that have propped up failing banks. “This needs to be fixed,” he said. “It landed us in the soup because of the bailouts. We cannot continue to have a level of risk taking that is supported by a government safety net. It is not going to work.”

Meanwhile stocks have sold off over 4 percent since the administration’s announcement. “It is clear to us that the market is not overreacting,” said Meredith Whitney, founder of Meredith Whitney Advisory Group. “The possibility of this proposal going the distance is high.”


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