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Tuesday, 10 November 2009

Global amnesia; let's forget derivatives

In a globally collective mass act of amnesia, we have all decided to ignore the fact that somewhere out there are $1,500 trillion of derivatives, constructed from our global GDP of just $55 trillion. We can't afford to write them off, we can't easily deflate them and our governments refuse to divorce themselves from the casino banks that own them. So what the heck, we say, let's just blow up that bubble a bit more - what's to lose?

So the world's banks suck up the billions that governments are pumping into the system and hold onto them as they repair the slight tears in their balloon balance sheets, fire the gas and gain a little altitude, with bumper bonuses for all.

Except I think it's far from over. That derivatives balloon will burst before it deflates away harmlessly.

And your share of the debt won't be the comfy £4,000 each that the press quote all the time. £4k is a very reassuring figure for most people. "I can take a £4k hit" we say; "it's not that much."

No, your share of the balloon burst will be around 27 times your annual income if those derivatives prove completely worthless; if they are only 20% over valued, your share will be around five and a half times your annual income. A long way from that comfy £4k, anyway.

Ok, so let's all put our fingers in our ears and all together ... "la la la ..."


Simon said...

Not to play down the issue, as the derivatives out there are pretty scary, but there are two reasons why that $1,500 trillion number is massively overdone.

Firstly that's the gross exposure - a huge proportion of the positions outstanding will net off. It would be a problem if there was another Lehman / AIG spanner in the works but as long as the world stumbles along, the net exposure is the important one and that is much much lower.

Secondly the amount outstanding is often quite misleading. For example with interest rate derivatives, the amount outstanding quoted is the principal amount, whereas the various payments (and hence the "value") are based on differences in interest rates so might be say 5% of this.

Scary, but nowhere near the headline figure.

Weekend Yachtsman said...

I don't understand how this is in any way possible.

You say the global gdp is $55Tr. And we have liabilities of how much? To whom, for goodness sake, and for what? It just does not make sense. What could we possibly have lost, committed, mortgaged, promised, or borrowed, that would cost a hundred times as much money as we make in a year?

The notion is absurd.

Why don't we just tell them - whoever they are - to whistle for it. What would happen?

Nick Drew said...

what Simon said

watch out for when (if) the Chinese really start defaulting on their commodity derivates obligations in a big way

they may well not, though, because they probably understand the consequences

Blue Eyes said...

I reckon the simple answer is to minimise exposure to cash money by spending anything you have and racking up the credit cards. There might not be many Chinese t-shirts when the economy collapses.