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The problem is value, not debt
We need a Truth of Value Reconciliation Commission
To avert an uncontrolled "Sudden Stop" - in the bond markets.
We need a Truth of Value Reconciliation Commission
To avert an uncontrolled "Sudden Stop" - in the bond markets.
For some time now I have been pondering the seemingly insignificant matter of where did the money come from, to fund all of the Trillions of debt we keep hearing about? We never see parallel reports of trillions of savings that have been used, to be lent out as debt. Again, recently, we were told that another bond auction for the Euro had failed. http://pragcap.com/on-that-failed-german-bond-auction
What would cause such a bond auction to fail?
If we, as ordinary citizens, use ordinary cash money to pay for things we buy, then a £UK, Euro or $US earned will buy the same value of goods. We simply pass the money over the counter to pay for what we buy. Money goes in one direction; the same value comes back to us in the other.
Again, if what we have bought retains its value, a financial bond for example, then we may, at a later date, reverse the exchange by selling the bond on to another, say, at the same price we paid for it. Thus here, value passes away from us and money comes back to us. Ordinary cash money and money face value on any such financial instrument; in those circumstances, are always of roughly equal value and is why, printed on your bank note are the words; "Promise to Pay". Thus the entire financial system is built upon the idea that if a banknote is created, printed, the value is always available to balance the transaction. Yes, I do understand that, under fiat currency rules, these matters have become, shall we say; blurred. But I am not talking about the rules for fiat currency, I am talking about bonds; so please bear with me for a moment.
Returning to my earlier point about the missing money to fund the trillions of debt, if we took all the savings of the people and placed them into one pot, they would surely not come anywhere near enough to fund the debt? Why not?
The immediate answer is to quote Mervyn King, Governor of the Bank of England in his recent speech where he reminds us about a small matter of,
industrialised world had increased to astronomical levels. Simple leverage ratios of close to 50 or more could be found in the US, UK, and the continent of Europe, driven in part by the expansion of trading books (Brennan, Haldane and Madouros, 2010)."
Leverage is where a financial institution receives one £UK, Euro or $US and then lends out £50, €50 or $50. In fact, what happens is they do not so much as lend the received money; they convert it into their own financial instruments such as bonds of some sort, but this time with their name on the front face. A major corporation wishing to develop their business in, say, China, needs funding for their new corporate offices in Beijing, then, say, a J.P. Morgan will lend them the funds, and to be able to do that, they will sell onto the bond markets their own bonds to suite the amount of money loaned.
But they do not sell the original £UK, Euro or $US, they sell the now leveraged value of up to 50 for the original 1.
In creating such a "Bond" the investment bank has mirrored the process that any central bank uses to create cash money; but instead of printing a bank note, they print a bond. It is crucial to this process that in both cases, the face value, the "promise to pay" is taken to be true. But the truth is; because the original financial input to the process of creating the bonds has been "leveraged" this means that the bonds have a true "money already in circulation exchange value" of a mere £0.02, €0.02 or $0.02.
Their face might tell the purchaser they are worth the full "promise to pay" value, but in true "Value" terms, they may be only worth 1/50th of the face value of the original "Promise to Pay" of the banknotes that represent the original input to the leverage. That is what Mervyn King means by leverage due to the expansion of trading books.
Now mount up the face value of all the bonds issued into the bond markets and you can now see where the trillions of debt have come from. But that is not the end of it; because, once you set such a trading books "leverage" mechanism into motion right across the planet, each such financial institution in receipt of face value, (but not true cash money value), takes another chance to leverage - again and again.
Now we can see why, when this present banking collapse started, it was triggered by someone questioning the value of the securities, (bonds) they held as collateral against more debt.
Our problem is not debt, it is value.
Recently, I met a German woman banker who told me, "it is only figures on a screen, it is not real money"
A few billions of real money value as the cash savings of the people very quickly became trillions of bonds on the bond markets; or as she so aptly put it, "only figures on a screen!"
So; what is the problem? Why take this debate away from debt and into value?
Take yourself back to the original point of the "exchange of value". You earn a £, € or $ and when you pay the value into a bank, what you get in return across the counter, your receipt, has to match the value; that at some point, EVERY such transaction has to return to the original value.
What happened was the US investment banks took the savings of their nation, (what little of them that existed), and added the savings of other nations …… (China being a good example), and, again and again …… leveraged them - selling the leveraged instruments onto the bond markets. But to be able to continue the process, assuming the bond markets contain the surplus money value of the planet, every time a new issue of bonds arrive to be sold, someone has to be able to make that original exchange of value, £ for £, € for € or $ for $. You have to use real money value to buy the newly issued bonds.
A government selling newly issued bonds to the people, to pay for the construction of a new road bridge, sells the bonds for true value; to swell their coffers. Again, historically, settlement of the "trading books" of any financial institution account is a crucial aspect of the normal function of a marketplace.
This is why any such market has very strict settlement rules. At some point in time, all of the deals done have to be "settled". Settlement day is a crucial aspect of a fully functioning marketplace where the value of all the deals done during the period has to match the real money value available in the accounts of the merchants.
The "trading books" must balance. But now we have a problem, and the problem is the true "real cash money" value simply does not exist any more; particularly on the bond markets.
To be able to settle the account, and thus to be able to buy bonds leveraged 50 times their true cash money value, you have to be able to produce, as the eventual buyer of the bonds, in cash, 50 times the original cash money value.
That sounds illogical, but is in fact, exactly, correct. So on the one hand you hold another asset of known value, true value; then you have to be able to find someone else who holds that true value, as available, unencumbered cash, to enable you to buy your new leveraged bonds. You always have to be able to bring true value to the table to be able to complete your settlement of the trade.
But now we know that many of the bonds in circulation, within the bond markets, have a face value 50 times more than the cash value available outside of the bond markets.
The true cash value does not exist to enable settlement.
The true money value is simply not available to enable the bond markets to resolve the issue of where to find the full money value to "pay off" the leveraged face value of the bonds in circulation.
And, this is surely why the bond auctions are now starting to fail? There simply is no way to fund the return of the face value of the bonds back to the original £, € or $ money value.
The true money value of issued currency simply does not exist to reverse the exchange of the leveraged face value of the bonds back to the starting point.
Again, the underlying reason for Quantitive Easing (QE) has been to try and cover up this "settlement" problem. But that in turn means, surely, all the bond auctions must fail as soon as quantitive easing stops? Or, as with Germany, QE is refused? And thus, in which case, surely, we have now, irreversibly; reached:
"Sudden Stop".
The only way out for those holding the bonds in the bond markets is for the original leverage to be returned back to the starting point of value and everyone can see that is not going to be possible without a complete collapse of the values of the bonds circulating within the bond markets.
The entire financial system has never before faced such a "value" problem.
Before I try and map a way out of this mess we need to look at some further, equally crucial aspects to this debate.
First of all it is clear that the regulators have been in full awareness of the overall problem as we see here with these reports:
Limiting Systemic Risks, New Principles for Regulation
http://www.stefanopagliari.net/SP/Pu...Regulation.pdf
Financial Reform, A Framework for Financial Stability
http://www.group30.org/pubs/reformreport.pdf
From early 2008, they will have known that there is a settlement problem.
What seems to have occurred is that the governments had set out to cover up the problem by making very large sums available to the banking system. But that strategy is in continuing disarray; the further down this road they go, the more the overall problem grows.
I am sure you have all seen the perplexed faces of government officials that were sure the problem of the troubled banks solvency was resolved; last time; and now seem surprised the problem keeps rearing its ugly head. This is why.
Trying to wash the problem out of the system with QE does not resolve the matter of settlement value. All QE is trying to accomplish is drain the leveraged value out of the balance sheets of the banking system into the balance sheets of government; In the process turning the responsibility onto future generations’ tax bills.
As a Student engaged with the student protests outside the UK Parliament this week very aptly related;
"They are trying to turn over their responsibilities to the children in the school playground".
What has in fact occurred is that the leveraged value has been widely distributed into the bond markets who have in turn, again widely, distributed the leveraged value into loans to governments and major corporations.
Yet, the bond markets must have known they were dealing with tainted goods.
So what we have today is the end result of what must be seen as the greatest financial scam ever. The investment banks created vast sums of false value "leveraged" financial instruments which they in turn "appeared" to sell onto the bond markets. But here we reach the nub of this whole problem.
There has never been sufficient true cash value anywhere on the planet to purchase the bonds in the first place. And this takes us to the next level of this disastrous deception
All of you must remember how suddenly, hedge funds were springing up all over the place with vast sums of money under their control.
Latest new Hedge Fund Launches
http://www.hedgefundsreview.com/type...funds/launches
What actually happened was the bonds were not sold onto the markets, as they simply could not have been sold at true value; the money to pay for them was simply not there. Instead, the markets were expanded without a true sale taking place. Hedge funds and what is today described as the "shadow banking sector" took these additional leveraged bonds and created new funds that had NEVER had access to any original value.…….. to pay to create them.
It was quite impossible for the transactions to take place, (from inside the investment banks, out to the new locations for the leveraged value, the hedge funds), to be funded by true cash value in exchange for the leveraged bonds.
Quite impossible! The true cash value simply did not exist and they all must have known that to be true.
Now, today, for these same financial institutions and bond markets to be holding the rest of the planet hostage:
for a return of the full face value of the bonds - back into their coffers
and, for the respective governments to be seen to be supporting them in their efforts, is beyond belief.
A truly absurd idea!
Yes, I can see the problem, if governments tell everyone the truth, they fear the true value of the £UK, Euro or $US will collapse. But I will argue the problem is not one created by the currency value, nor by governments; but by the bond markets.
That it is the bond markets that must now accept the full responsibility to return the values back to settlement. At first sight, the best solution might be to identify the over-leveraged bonds and then deem them null and void. But there is a distinct possibility that all that will do is set into motion an uncontrolled collapse.
We must not leave this to an uncontrolled collapse.
Yes, I am sure many of you will advocate we set into motion actions to divert the responsibility to where it lies – with the people and the financial institutions that instigated the process in the first place and with those that knew full well what was happening and did nothing to bring it immediately to a stop. That it is surely a much better option to throw several prominent individuals into jail and to close down several deviant institutions such as the investment banks and investment banking arms of traditional banks that indulged in these practises; regardless of the short term difficulties that will entail. That the best way forward is the offending institutions must be exposed to the full might of the law, and then broken up or closed down.
That is not going to solve anything; indeed, it might well make the whole situation even worse than it is now.
Instead, I propose we set into motion the same strategy as South Africa did at the end of Apartheid; a Truth and Reconciliation Commission. http://en.wikipedia.org/wiki/Truth_a...ion_commission
That we set into motion a process that will bring every bond issued by the offending banks, in front of a panel to be publicly accessed for their true value. That we set out to wash the offending bonds out of the bond markets in an orderly manner. Particularly in a manner that closes the door to a continuance of trying to pass the responsibility to future generations as a tax liability.
That we set into motion an orderly reset of leveraged bond values right across the financial sector.
May I be so bold as to suggest that such a Truth and Reconciliation Commission will also fit into the thinking from Dr. Ron Paul, recently appointed Chair of the Congressional Subcommittee that oversees the Federal Reserve, who, in his guest editorial today in The Daily Bell, writes:
On another note, of the $1.25 trillion purchased under the Fed's "Mortgage-Backed Securities Purchase Program," only $877 billion in purchases have been publicized. What happened to the remaining $400 billion?
These kinds of limited disclosures by the Fed only underscore the need for a full and complete audit of the Fed's financial books. This audit should be done by an independent third party, in the same manner that public companies are audited. The Fed should make public its balance sheet, income statement, and perhaps most importantly its cash flow statement. It also should publicize the notes explaining those financial statements."
By setting such a truth of bond value reconciliation commission into motion; the full burden of the responsibilities for the costs of the scam will then fall onto the shoulders of the promoters; rather than the children in the school playgrounds of the world.
Continuing to pretend this will all go away and that nothing needs to be done is an unacceptable position for the governments and their regulators.
Settlement; at true reconciled value; must be, as quickly as possible, applied to the bond markets and the shadow banking industry.
Any other strategy will surely, eventually; perhaps very quickly indeed; cause a sudden stop with catastrophic consequences.
Chris Coles
December 14th, 2010.
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