Home > Miscellaneous Musings, Predictions > Bankers are carriers of financial AIDS

Bankers are carriers of financial AIDS

No kidding.

In a normal free market economy a business that fails should be allowed to collapse. If a business is a giant pyramid scheme, like the current financial system, it must be allowed to collapse and its executives and operators should face prosecution. After all running pyramid schemes is illegal. Letting the banks collapse would have been a far more commercially sound solution than the current approach, provided the governments would have secured and guaranteed socially vital interests directly. For example, individual deposits would be guaranteed if a bank collapsed. Deposit accounts records, along with mortgage and genuine business accounts, would be moved to a specially created agency of the Bank of England which would honour them with government help. If a pension fund collapsed due to a bank collapse, individual pensioners would continue receiving their unchanged pensions from the social security system. This would guarantee social stability and a normal flow of cash into the economy.

The hard part would be to liquidate financial institutions while sifting through their toxic waste and to distinguish genuine non-toxic instruments and the results of pyramid scheme operation. Deposits, mortgages and business accounts are clearly non-toxic in principle. However, in the modern banking they were mixed with potentially toxic assets. This would be a gargantuan task.

The current “quantitative easing” (printing cash) is an attempt to convert more toxic instruments, like securities, into cash, albeit at some inflationary costs, and make them state-guaranteed, as cash is guaranteed by the state. It is just another trick of the financial pyramid purveyors to extract even more cash from taxpayers through the governments on the back of the scheme. Looking back to the 1990s, Albanian gangsters must feel really crossed considering that they were not offered such a “rescue” package first by Albanian government, and then by the World Bank and International Monetary Fund…

Some economists see overvaluation of financial instruments as the root cause of the current financial crisis. Overvaluation was not a necessary factor, but only a contributory and accelerating factor that worsened the crisis. The crux of the matter is that financial institutions have considered financial instruments, like securities, as good as cash and added them as cash in the deposit creation cycles at a rate that brought the loan-deposit ratio to 100% or above. Without non-cash financial instruments considered as cash it is impossible to go above 100% in a deposit creation cycle. And it does not matter if these instruments were given proper risk characteristics individually discounting their notional, face value. As long as with any residual value, they have been added in deposit creation process to an extent that its ratio was 100% or above, the disaster was only a matter of time. Because of exponential character of the creation it was a matter of a short time.

Loan-deposit ratio above 100% is like (untreated) AIDS. As it progresses it weakens the immune system of economy that safeguards against adverse events: natural disasters, wars, etc or sometimes unpredictable mood swings of market players. The current crisis was triggered by the collapse of subprime mortgage market (effectively overvaluation of assets). This time the system, for years having had been weakened by loan-deposit ratio above 100%, also collapsed altogether. It was a giant pyramid and it was bound to crumble anyway (for whatever direct cause). It was like a human suffering from AIDS whose death was not caused by AIDS directly, but by pneumonia, flu, infection, etc. However it is AIDS that made the curable illnesses lethal.

Until recently the world enjoyed a sustained period of high growth and low inflation and the fact that it came to such an abrupt end does not come as a surprise. It was in the very nature of the pyramid scheme mechanism. The deposit creation process with a ratio above 100% guaranteed impressive-looking economic growth figures. At the same time there were no extra cash hitting Main Street, as there was no extra cash printed. In this context, the high growth of property prices is no surprise. In their huge majority and extent, these are, in practice, cashless interbank transactions. The world stayed oblivious in this economic miracle like customers of a pyramid scheme being happy with the figures on their statements until they wanted to withdraw money. But like with any pyramid scheme, the financial system ran out of cash, with the outcome a lack of liquidity, not high inflation.

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