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Structured Investment Vehicles and Hidden Liability

Posted By: Andrew Gause | Posted On: 2008-02-21 | Article ID: 44456

The Federal Reserve has moved to establish the Master Liquidity Enhancement Conduit (MLEC). This is a really fancy name, but do not let the word play fool you. It should be called "The Banks That Own The Federal Reserve's Bailout Fund." Its given nickname is the "Superfund," and its sole purpose is to fund a repository for the gigantic pool of SIVs floating around the financial system.

Structured Investment Vehicles or SIVs (and their close cousins the Collateralized Debt Obligations or CDOs) were assembled, and in many cases sponsored, by the primary owners of the New York Federal Reserve Bank, Citigroup, JPMorgan Chase and Hong Kong Shanghai Bank Corporation (HSBC). Corporate clients of these money center banks have used SIVs to keep almost $500 billion of liabilities off their balance sheets and out of the money supply.

In order to more fully understand the current phenomenon engulfing the financial markets or the "subprime problem," one must challenge the concept of the nature of money. The money supply, or "L" as accounted for inside these pages and from figures supplied by the Federal Reserve, includes all: bank accounts, cash, coin, registered bonds, CDs and other monetary instruments. It does not include these SIVs, CDOs or other off balance sheet obligations.

If Corporation A writes: "IOU One billion dollars" on an otherwise worthless paper bag and gives it to Corporation B, B now has an asset worth one billion dollars. If Corporation B places this asset on the balance sheet, suddenly they are worth $1 billion more and Corporation B also sees its borrowing power increase. But this so-called "asset" is not counted in the money supply.

If they were counted, the money supply would instantly explode. There are literally trillions of dollars in such "off the books assets" that have been used by banks and corporations around the world with the blessings of the conflicted owners of the aforementioned Federal Reserve Banks. It should come as no surprise, then, that the principals and managers of these institutions are the most vocal proponents for the creation of the Superfund.

Curiously, one of its most vocal opponents of the plan is former Federal Reserve Chairman Alan Greenspan. He suggests that forcing a sell-off of these dubious SIVs should be encouraged. This, he believes, would force a more realistic value on these unregistered debt instruments. The truth is that it would be impossible for the involved institutions to gather up enough money from the existing supply to cover all of these types of debt instruments.

So what is the Federal Reserve to do? Exactly what we at "The World of Money" predicted that they would do: balloon the money supply to provide a cushion of borrowing power for these institutions, which allows them to unwind this bad debt - without having to admit their losses all at once.

Banks that did not invest in this subprime market say that the Superfund will provide an unfair advantage to those who used these risky and unsound instruments to plunder the financial markets. If these offending banks are rescued from their greed with money provided in part by taxpayer subsidies, this would encourage continued abuse. This is referred to as the "moral hazard."

The Superfund will emerge as a giant government-supported and sponsored dumping ground. It will be used to buy the existing SIVs so that the banks involved do not have to show the losses on their books. The Superfund will also allow these banks to continue to hide how much depositors' capital is still at risk from bad debt. Citigroup, Bank of America Corp., JPMorgan Chase, Wachovia, HSBC, PIMCO and Fidelity were among the first to join the plan, effectively identifying themselves as the ones with the most to lose.

Citigroup alone fessed up that Citibank, its wholly owned subsidiary, had assumed $500 million in bad SIV debt simply by agreeing to make the interest payments for other institutions who could no longer service these crushing debt obligations. As far as the consumer however - Citibank will do nothing.

Can you imagine Citibank offering to cover your mortgage payments because you were unable to pay? Foreclosure is what the average consumer could expect. I believe that the banks should receive the same treatment, however the canard of 'too big to fail' has once again reared its head. We haven't heard that excuse since the Mexican bailout induced by Goldman Sachs back in 1995. The institutions behind the Superfund concept say it is a necessary expedient and must urgently be implemented to prevent a flood of further sales.

But their rush to provide a rescue package is in direct conflict with public assertions that the peak of the crisis has passed. In fact the real inflationary pressures have yet to be felt. The money supply needs to surge at least 20% to cover obligations. Treasury Secretary (and former Goldman Sachs chairman) Henry Paulson has committed the administration and the taxpayer to the bailout. The Federal Reserve has given its blessing to the Superfund's implementation. The cash will start flowing and the game will resume, as fixed as it ever was.

As for the welfare of the people, I expect you will see the emergence of other bailout funds for the nations' debtors. But the 85 million retiring baby boomers, who saved their money and played by the rules, will have inflation as their reward.

 

Article Source: http://www.articlecell.com

About The Author
Andrew Gause
Andrew Gause, author of "The Secret World of Money" and "Uncle Sam Cooks the Books," is a numismatist, monetary historian, and frequent U.S. radio guest. He publishes the quarterly newsletter "The World of Money," available online along with tips on wealth protection through investment-grade U.S. gold coins.



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