Will Bernanke’s quantitative easing derivatives bubble dwarf Greenspan’s financial bubbles?

March 10, 2013 - PRLog -- In the 1960s President Lyndon Johnston had difficulty financing both the Vietnam war and the war against poverty. In February 1968 he asked Congress to end the requirement that dollars be backed by gold. That decision fundamentally altered the nature of money in the United States, and permitted an unprecedented proliferation of credit. Total credit market debt in the U.S. expanded from $1 trillion to $52 trillion by 2008. During the last 50 years the U.S. economy has experienced a series of boom and bust cycles, based upon expansion and contraction of the money supply.

Allan Greenspan created two credit expansion bubbles during his career as Chairman of the Federal Reserve. Greenspan presided over the 1996-2000 dot.com bubble and the 2002-2007 real estate bubble. However, Ben Bernanke’s quantitative easing may create a derivatives bubble which could set a record for economic damage. The Dutch tulip mania in the 1600s, and the French Mississippi Bubble in the 1700s, may pale in comparison to Bernanke’s $700 trillion derivatives bubble.  

Inflation encourages speculation, breaks down thrift, and develops political and social immorality. It is most injurious to those on fixed salaries or retirement income. The initial issue of fiat money appears to stimulate the economy, but soon, ever increasing amounts are required to continue the illusion of prosperity. The only persons to be helped are the rich who have large debts to pay, or bankers who participate in profits from risk taking. Speculative fast money becomes addictive, and eventually leads to ruin. Inflation eventually causes a collapse in manufacturing and commerce. It has been said that, “Hitler and despots are the step-children of fiat money”.

The current zero interest rate policy (ZIRP) of the Federal Reserve has discouraged banks from making low interest loans, and has encouraged them to invest in emerging markets and more risky investments such as derivatives. Derivatives are paper contracts based upon other paper instruments. The derivatives market includes options, credit default swaps, futures, and other leveraged contracts. The Office of the Currency Comptroller reports the top 4 banks in the U.S. currently hold 96% of the $250 trillion derivative contracts held by U.S. banks. While many of these derivatives have off-setting hedge contracts, there is no guarantee off-setting parties and off-setting collateral will survive a financial crisis.

When interest rates normalize and began to rise, at the conclusion of the current quantitative easing, losses in derivatives may end up bankrupting a wide range of institutions, including municipalities, state governments, insurance companies, and large U.S. banking institutions. Defaults now beginning to occur in a number of European cities prefigure what may end up being the largest financial bubble ever to burst. The world market for derivatives is impossible to calculate, but many experts believe the notional amount exceeds $700 trillion, or more than 10 times the GDP of the entire world. Four U.S. banks, JP Morgan Chase, Citibank, B of A, and Goldman Sachs, hold $250 trillion notional value in derivatives. The entire U.S. stock market is valued at less than $15 trillion and the GDP currently stands at $14.2 trillion. The GDP of the entire world is estimated at $60 trillion. 　　

The “notional value” of a derivative is the leveraged face value, and may not be representative of its true value. As an example the right to buy $5,000 worth of oil isn’t the same as actually owning $5,000 of oil. An alternative way to measure the size of the derivatives market is to calculate the market value of the contracts if they were settled today. Gross market value of all outstanding derivatives was $14.5 trillion at the end of 2007, less than one-fortieth of the $596 trillion notional estimate. That number shrinks to about $3.4 trillion once you take into account contracts that directly offset one another. Still, the concept of “notional value” is irrelevant, if the counter parties become insolvent. And the equitable value of the contract today, does not equal the possible liability of the contract tomorrow. The insolvency of AGI, as a counter party, almost brought down Wall Street in 2008, and the derivatives market has grown fourfold since then.

Some of the world’s most prominent hedge fund managers are betting against the Euro currency. The countdown to the break up of the Euro has begun. If Germany pulled out of the Euro it would collapse. The southern Euro zone is completely dependent on Germany. Without German help, France could not handle its own financial problems, much less bail out southern Europe. Large U.S. banks have loaned money to French and German banks, and have made interest and currency swaps. A decline in the value of loans to Europe, and derivative losses, could quickly make the four major U.S. banks (JP Morgan Chase, Citigroup, Bank of American and Goldman Sachs), insolvent again. Inflation is like sin; every government denounces it, but most governments practice it. Capitalism without bank failures, is like Christianity without sin.

In the middle of the nineteenth century the West started down a slippery slope. Up until that time the Bible was considered the authoritative text by religious people. However, things begun to change when religious liberalism was born. In 1878, a German rationalist scholar named Julius Wellhausen, along with other German rationalist theologians, taught the Bible was not the inerrant Word of God, but instead taught it was the work of human reason, and the Pentateuch was not written by Moses, but several authors. 　　　

By the late 1800s Wellhausen’s ideas of human error in the Bible, combined with the influence of Darwinism and Marxism, began to have a destabilizing effect on the theological seminaries and churches in Germany and Europe. People began to doubt direct revelation from God, and then deny it. Christianity ceased to be a religion based on divine revelation, and became a set of composite religious views anchored in human reason. Liberalism taught God was a God of love and man must do away with the archaic concept of original sin. Instead of forgiveness, people needed education, freedom from war, hatred, and famine. This was a doctrine similar to the social Darwinism preached by Karl Marx. Religious liberalism developed an early alliance with the political Left. As a result Europe became a post-Christian welfare state, and the United States is close on its heals. In recent years more Muslim mosques have been constructed in France and England than churches. The West has committed suicide. 　
　

Fore more information on the coming financial crisis and the culture war, please see:

Teapartyculturwar.com

And the book: “Tea Party Culture War: a clash of worldviews“ by author, Stephen Johnston