The financial sector now represents 40 percent of GDP, which is to say that the exchange of paper claims to wealth is the driving force behind economic growth. The production of useful things, that actually improve people's lives and raise the standard of living, has been replaced by the trading of complex debt instruments and opaque derivative contracts.
Securitization is at the very heart of Wall Street's Ponzi-finance scam. It creates profits by transforming liabilities into "cash flow" which can be sold at market. Bottom line: Factories and manufacturing are out. Toxic paper and garbage loans are in. As ringleader of the banking fraternity, the Federal Reserve has a big stake in securitization and would like to see it succeed. Bernanke's job is to provide the liquidity and capital that's needed to put the credit markets back in order. To that end, Bernanke has spared no expense to underwrite all of the toxic loans which have presently brought the financial system to its knees. According to Bloomberg:
"The U.S. government has pledged more than $11.6 trillion on behalf of American taxpayers over the past 19 months, according to data compiled by Bloomberg. Changes from the previous table, published Feb. 9, include a $787 billion economic stimulus package. The Federal Reserve has new lending commitments totaling $1.8 trillion. It expanded the Term Asset-Backed Lending Facility, or TALF, by $800 billion to $1 trillion and announced a $1 trillion Public-Private Investment Fund to buy troubled assets from banks. The U.S. Treasury also added $200 billion to its support commitment for Fannie Mae and Freddie Mac…” (Bloomberg News)
There's literally no end to the Fed's generosity when it comes to providing for its friends on Wall Street. Only a small portion of Bernanke's largesse was bestowed with proper congressional authorization. Bernanke simply doesn't care if the public sees him as the unelected oligarch that he really is.
Securitization soared between 2003 and 2006 when US current account deficit skyrocketed to nearly $800 billion per year. That's when "America's banks discovered that they could borrow money cheaply from Asia and lend it out in higher-yielding domestic mortgages while using sophisticated financial engineering to wall off and strictly control their risks."(Brad Delong) The US was consuming $800 billion more per year than it was producing, but the damage remained invisible because foreign governments and investors were recycling their savings back into US Treasurys, GSE bonds (Fannie Mae), and mortgage-backed securities (MBS). It was a windfall for Wall Street that put the investment banks and hedge funds deep in the clover. A number of economists sounded the alarm, saying that the burgeoning account imbalances were unsustainable, but the business media just brushed them off as Chicken Littles.
Now, foreign investment has slowed, the credit markets are frozen, real estate is retreating and $40 trillion of wealth has drained from the global equities markets. The tremors from Wall Street's mortgage-laundering swindle have rippled through the broader economy causing an unprecedented contraction in retail, imports, durable goods, transports, high tech, electronics, and cyclicals. The unemployment roles have mushroomed while asset prices have continued to plummet. The Dow has dropped 54 percent from its peak and is sliding inexorably towards 6,000. Pessimism abounds. snip
Until the two Bears Stearns hedge funds defaulted 19 months ago, securitization had been Wall Street's most reliable source of revenue; a real cash cow. It was the main reason that total mortgage debt jumped from $4.5 trillion in 1999 to $11 trillion in 2006; more than double in just 7 years. At the same time, the asset-backed securities (ABS) market, which packaged other types of business and consumer debt into securities, shot up by more than 500 percent to $4.5 trillion. Securitzation turned out to be the Mother Lode. The torrent of surplus capital from the savings glut in the Far East (as well as "yield seeking" insurance companies, retirement funds and investment banks) turned mortgage-backed securities and other structured investments into a multi-trillion dollar industry.
The process recycled revenue to mortgage originators where low interest rates and lax lending standards kept the volume of MBS high, but the quality low. It's clear now, that securitization created incentives for fraud by transferring credit risk from the originator of the loan to the investor. The originator makes his money on the volume of securities sold; the quality of the underlying mortgages is secondary. This week, the Wall Street Journal reported that 7 out of 10 subprime mortgages vintage 2006 will default. The failure rate proves that the system had deteriorated into little more than a scam. It was securitization and the 25 to 1 leveraging of toxic assets at the hedge funds, investment banks and private equity firms, that brought on the current financial crisis. When trouble broke out in the subprimes, the secondary market shut down, and the flow of credit from nonbank financial institutions dried up. Unfortunately, the real economy has become addicted to easy credit and sky-high asset prices. Now that the bubble has burst, the phony prosperity of the Bush years has been wiped out in one fell swoop. The stock market has plunged to its 1996 level and housing prices are returning to the mean. The question now should be, do we really want to restore a crisis-prone credit-generating system (securitization) by providing a $1 trillion subsidy to profit-oriented hucksters who are largely responsible for the current recession?
As Barak Obama stated last week, "Credit is the economy's life-blood". It should distributed through government-owned and regulated financial institutions that operate as public utilities. Credit is everyone's business. It shouldn't be controlled by speculators.
By Mike Whitney
http://www.marketoracle.co.uk/Article9247.html
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