What is a Banking Meltdown and Why is it Possible?

dreamgardenNovember 24, 2008

It would be nice to think the economy isn't in such bad shape, but after reading the article below, I have my doubts that things are going to get any better before they get worse.

Wouldn't it be great to hear the opinions of those bankers (or other knowlegable finance pro's) who regularly visit this forum, and hear what hey think about how we got into such a mess with derivatives and what could/should have been done to prevent this global banking debaucle?! Where are a pair of good cement boots when one needs them!

Citigroup collapses! Banking Shutdown Possible

by Martin D. Weiss, Ph.D. 11-24-08


"What Is a Banking Meltdown And Why Is it Possible?

On October 11, 2008, a single statement hit the international wire services that provides more specific clues:

"Intensifying solvency concerns about a number of the largest U.S.-based and European financial institutions have pushed the global financial system to the brink of systemic meltdown."

This statement was not the random rant of a gloom-and-doomer on the fringe of society. Nor was it excerpted from a twentieth century history book about the Great Depression. It was the serious, objective assessment announced at a Washington, D.C. press conference by the Managing Director of the International Monetary Fund (IMF).

The unmistakable implication: So many of the world's largest banks were so close to bankruptcy, the entire banking system was vulnerable to a massive collapse. The primary underlying cause:


The Mafia knows all about systemic meltdowns of gambling networks. In the numbers racket, for example, players place their bets through a bookie, who, in turn is part of an intricate network of bookies. Most of the time, the system works. But if just one big player fails to pay bookie A, that bookie might be forced to renege on bookie B, who, in turn stiffs bookie C, causing a chain reaction of payment failures.

The bookies go bankrupt. The losers lose. And even the winners get nothing. Worst of all, players counting on winnings from one side of their bets to cover losses in offsetting bets are also wiped out. The whole network crumbles" a systemic meltdown.

To avert this kind of a disaster, the Mafia henchmen know exactly what they have to do, and they do it swiftly: If a gambler fails to pay once, he could find himself with broken bones in a dark alley; twice, and he could wind up in cement boots at the bottom of the East River.

Unlike the Mafia, established stock and commodity exchanges, like the NYSE and the Chicago Board of Trade, are entirely legal. But like the Mafia, they understand these dangers and have strict enforcement procedures to prevent them. When you want to purchase 100 shares of Microsoft, for example, you never buy directly from the seller. You must always go through a brokerage firm, which, in turn is a member in good standing of the exchange. The brokerage firm must keep close tabs on all its customers, and the exchange keeps close track of all its member firms. If you can't come up with the money to pay for your shares, the broker is required to promptly liquidate your securities, literally kicking you out of the game. And if the brokerage firm as a whole runs into financial trouble, it meets a similar fate with the exchange. Very, very swiftly!

Here's the key: For the most part, the global derivatives market has no brokerage, no exchange, and no equivalent enforcement mechanism. In fact, among the $181.2 trillion in derivative bets held by U.S. banks at mid-year 2008, only $8.2 trillion, or 4.5%, was regulated by an exchange. The balance " $173.9 trillion, or 95.5% " was bets placed directly between buyer and seller (called 'over the counter'. And among the $596 trillion in global derivatives tracked by the BIS at year-end 2007, 100% were over the counter. No exchanges. No overarching enforcement mechanism.

This is not just a matter of weak or non-existent regulation. It's far worse. It's the equivalent of an undisciplined conglomeration of players gambling on the streets without even a casino to maintain order. Moreover, the data compiled by the OCC and BIS showed that the bets were so large and the gambling so far beyond the reach of regulators, all it would take was the bankruptcy of one of the lesser derivatives players'" such as Lehman Brothers " to throw the world's credit markets into paralysis."

A link that might be useful:



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New meaning for "BBB" - "Broke Bankers' Bailout".

The guy who's in charge in the gov't. now used to be the head guy at Goldman Sachs.

Socialism for the rich ...

... private enterprise for the guys on the lower rungs - who get stuck with picking up the tab.

ole joyful

    Bookmark   November 25, 2008 at 11:58PM
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It seems to work that way, doesn't it? d

But is it socialism - or something akin to feudalism?

    Bookmark   November 26, 2008 at 6:09PM
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From this week's New Yorker:

The Moral Stage of Wall Street

Swiss bankers are not known as paragons of transparency and moral accountability, so its a nice surprise to read that the top officials of UBS, the foundering financial institution recently bailed out by the Swiss government, will forgo twenty-seven million dollars in compensation and bonuses. It appears that these Swiss bankers have a faint pulse of shame.

It has not gone remarked upon enough that their American counterparts apparently have none. Having brought the American and global economy to its knees through their reckless, short-sighted, downright stupid investments, and then looked to the government for a very expensive lifeline, the leaders of Citigroup, A.I.G., Goldman Sachs, Morgan Stanley, Lehman, and other financial giants are maintaining a carefully nonchalant public posture. Andrew Cuomo, New YorkÂs Attorney General, had to hold a threatening press conference on Wall Street in order to frighten A.I.G. into announcing that raises, bonuses, and lavish retreats will be suspended. But fear is not the same thing as shame. Morally speaking, itÂs inferior.

The moral code of these Wall Street executives corresponds to stage one of Lawrence KohlbergÂs famous stages of morality: "The concern is with what authorities permit and punish." Morally, they are very young children. The Swiss bankers are closer to stage four, most common among late teens, where a concern for maintaining the good functioning of society takes hold. Stage six, an elaboration of universal moral principles based on an idea of the good society, is a distant dream for the titans of global finance.

In private life, extreme indebtedness, bankruptcy, the ruin of those close to you, and dependence on the government dole are generally thought to be causes for anguish, self-denial, and a degree of shame. But if youÂre a financial executive with an exalted title, a big enough salary, a deep enough debt, and a vast enough handout, these same disasters entitle you to go on living and feeling about yourself much as you did before. You even have a right to think that the taxpayers owe it to youÂthat itÂs for their own good, not yours. You donÂt have to explain yourself; you certainly donÂt have to apologize.

I would like to see these malefactors of great wealth apologize to the country. I would like to see them organize their own press conference in a lineup on Wall Street and, in the manner of disgraced Japanese officials, bow low to the pavement, express contrition, and beg their countrymenÂs forgiveness. Such a scene would go some way toward cleansing the smell of the financial crisis.

Of course, nothing like this is going to happen. So instead, like the parents of two-year-olds, the next Congress should summon them to Washington and publicly punish these executives who, in KohlbergÂs terms, "see morality as something external to themselves, as that which the big people say they must do."

Happy Thanksgiving, everyone.

    Bookmark   November 28, 2008 at 3:18AM
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Doesn't the term 'sociopath' come to mind? A goodly percentage of the incarcerated are sociopaths, yet the business world is one in which sociopaths can thrive -- if we let 'em.

The sociopath is intelligent, manipulative, thrill-seeking, and uncaring of the consequences of his actions on others. There is no 'we'; there's barely an 'I'. There's no use in appealing to a conscience because it doesn't exist in a sociopath.

I believe the more modern term is psychopath. The earlier term seems more descriptive of the individual's profound absence of concern for anyone outside him or herself.

    Bookmark   November 28, 2008 at 10:25AM
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On evakuation of the opinions expressed above, I have the feeling that you would scarcely accept the term, "naughty" as a descriptive adjective adequate for the activities of these financial guys/(gals?)??

ole joyful

    Bookmark   November 28, 2008 at 10:01PM
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In traditional Japanese culture ...

... among the warrior class, at least ...

... the Samurai leader who'd screwed up ...

... fell on his sword!

I think that there are some positive things to be said for at least that aspect of such a culture.

These days, in our self-indulgent part of the world ...

... instead of shame ...

... there tends to be "blame" ...

- of someone else, circumstances, the system, etc. - whatever.

ole joyful

    Bookmark   November 30, 2008 at 8:05AM
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