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HEADLINE: High stakes poker! The government vs. the bankers on derivatives regulation
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If you think the health care debate is a big brouhaha, its nothing compared to the behind the scenes battle over government regulation of derivatives.
On the government side we have a proposal that would require the most standard derivatives to be processed through a clearinghouse, whose members would make good on any default. This is the way the commodity markets operate. For "nonstandardized contracts," banks would have to put up more capital or margin.
On the other side of the table are the big five banks: JPMorgan Chase & Co. (NYSE: JPM), Goldman Sachs (NYSE: GS), Bank of America (NYSE: BAC), Morgan Stanley (NYSE: MS), and Citigroup Inc. (NYSE C).
The stakes in this game are unbelievable and beyond any means of understanding. We are talking about a $592 trillion dollar market...
The big five banks hold 95% of the $291 trillion in notional derivatives value of the country's 25 largest bank holding companies.
Banks have been using their power to control the derivatives market "under the table." This example will show why placing trades on a clearinghouse would limit their "free money." Here's how it works: According to Bloomberg, "When a company or investor wants to enter into a swap, the bank checks internal pricing sources to determine the cost of making the opposite trade with another bank, which would enable to eliminate any exposure on the trade. Armed with that information, it then offers a higher swap price to the client, allowing the bank to pocket a profit. The prices are measured in basis points, each of which is .01percentage points.
The big five banks have made $35 billion from derivatives trades, including interest rate and CDSs and cash instruments such as treasuries and corporate bonds.
Who will win this poker game? If ever there is an issue that goes to the very core of our financial meltdown, this is it. Make no mistake. How this is resolved will set the course of our financial markets for this and future generations.
Do you believe that the government has the power and the will to follow through on these proposals?
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