As of June, Citibank was perhaps the world’s third largest holder of derivatives, with over thirty trillion dollars (nominal value) in derivatives.
On Friday, Business Week wrote about the risk of counterparties to Citigroup’s credit default swaps defaulting on their payments to Citibank:
For each dollar of risk-based capital, Citibank was exposed to $2.58 in such credit risk on June 30 ….
Citibank’s parent corporation – Citigroup – is many times larger than Citibank. Given that Citigroup is a highly diversified financial services company, it is certain that derivatives were held by many subsidiaries besides Citibank, so Citigroup’s total derivatives holdings had to have been a lot higher.
Today, the U.S. government is giving Citigroup another $20 billion dollars (in addition to the $25 billion already given), and guaranteeing $306 Billion in toxic assets.
Given that alot of Citigroup’s toxic assets – which American taxpayers are going to have to pay for – are derivatives (and the failure of a major financial institution like Citigroup could have caused direct derivatives losses of $400 billion and indirect losses of $1.5 trillion), and given that part of the reason that Citigroup fell so fast is because piranhas bet against it using credit default swaps (driving the price of business way up), wouldn’t it have been cheaper for the government to just rescind CDS owned or bet against Citigroup than to bailout Citigroup? Wouldn’t canceling AIG’s CDS have been cheaper than bailing out that giant?
And because all of the trillions spent and all of the dramatic measures taken by the government have completely failed to stabilize the economy, isn’t it obvious by now that the only way to avoid a depression is to rescind the toxic CDS – the market for which is bigger than the world economy? Putting CDS on exchanges – the current proposal of the G-20, Bush, Bernanke, Cox and the gang – is too little, too late. We’ll crash and burn before the exchange is even launched.
Nothing Paulson, Bernanke, Obama, Geithner or anyone else does will work unless these weapons of mass destruction are taken apart and buried in the ground piece-by-piece.
Again, the legal theory for rescinding CDS is that they were sold using fraudulent claims that they were fairly safe and risk-free. It is basic law 101 that fraud is basis for rescission of a contract, and CDS are a type of contract.
And I am not for rewarding the purveyors of these weapons of mass destruction., but it would have been much cheaper for taxpayers if the government had bought out the CDS effecting the most vulnerable companies by “condemning them” in the same way the government uses eminent domain to condemn land, and to pay the sellers and/or holders of the CDS some small sum to compensate them. Again, I think they should be rescinded with no money spent. But if our leaders don’t have the spine to do that, then condemn them and pay out some nominal sum. But deal with them – don’t fritter away billions more on schemes which won’t work because they don’t address the core issues.