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Strategies & Market Trends : Mish's Global Economic Trend Analysis
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From: axial6/28/2009 7:04:32 PM
1 Recommendation  Read Replies (1) of 116555
 
A Wall Street Fairy Tale

delong.typepad.com

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When American high finance hedged its mortgage risk by buying derivatives from AIG, it did not perform due diligence to figure out if AIG could in fact meet its obligations. This failure cost American high finance an amount that may ultimately reach $300 billion. And it would have been fatal had the government not come to their rescue.

Had the government stepped in by discounting AIG paper in return for warrants and notes at fair market values, the banks' life support apparatus would have been obvious. It is only because the government stepped in by nationalizing AIG and guaranteeing its debts that American high finance now has healthy stock prices, and that the senior executives of the big banks — except Citi, Bank of America, Lehman, and Bear-Stearns — are congratulating themselves for their skillful navigation through the crisis.

The fact that the rescue of the banking system took the form of nationalization of AIG, and the honoring of its paper, rather than equity investments by the government in the banks, and the discounting of AIG paper, has encouraged a bout of revisionism in which most of Wall Street and at least a third of Congress now embrace a fairy tale. They tell themselves — and us — a story of a banking system that was fundamentally sound, that merely needed a little temporary liquidity to tide itself over a panic. But the true story is one of an overleveraged banking system that was insolvent save for a $300 billion gift from American taxpayers.

In September, Wall Street was overrun with bears. Now it seems Goldilocks has taken up residence there, too.

Jim
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