Tuesday, October 14, 2008

At The Cellular Level of The Financial Crisis

Like most of you out there, I read a newspaper. My newspaper is the Sunday New York Times. My city’s Sunday paper is not much for news, so I read the Sunday Times. But even the New York Times’ writers do not fully understand what they are writing about when it comes to writing about the financial crisis and bonds and the markets. They know all the terms, but like someone explaining how the human body functions without understanding what takes place at the cellular level, these writers can only go so far in their explanation. Let me just say now, I do not know everything about the financial markets because I have not traded every type of financial instrument that has come down the pike, but I do understand the importance of credit ratings.

As I have written before many times, credit ratings are the weights and measures of the financial industry. Without confidence in weights and measures, commerce would grind to a halt. Without confidence in the credits of financial instruments, markets grind to a halt.

Let me give you a little visual explanation. Have you ever looked carefully at a gold coin? Gold coins have ridges running around the outer edge of the coin. Our own silver dollars, fifty cent, quarters and dimes also have these fine little ridges around their outer edge. Do you know why they put these little ridges on the outer edge? The reason is simple. So people do not shave some of the gold or silver from the coin and in turn short change you. Years ago, people of lower business ethics would scrape the gold or silver from the edge of the coin and when they got enough gold or silver they sold it. Mints realized that to prevent this practice of shaving, ridges would be the thing to stop that. People when they received their change would check their coins that they were not tampered with.

Credit ratings on bonds that do not meet certain credit standards is the same as the practice of shaving gold and silver coins. What I am asking the Federal Government to do is take the responsibility of assigning credit ratings to either the Federal Reserve Bank, the Securities & Exchange Commission or a new Federal Agency that would put the ridges around the bonds, especially those asset-backed bonds like mortgage bonds.

The meltdown in the bond markets is directly related to the fact that the market makers no longer have any confidence that the asset-backed bonds are what the ratings say they are. As a result, at the cellular level of the financial animal, the organism has shut down. I hate to beat a dead horse, but I think an explanation at the cellular level of the financial crisis is important.

Stay tuned.


LceeL said...

How do we get anybody to listen?

moneythoughts said...

My first reaction is that there is more money being spent so the politicians don't listen. But, on the other hand, if I keep writing and live long enough, someone somewhere will start listening. The financial industry can be an ethical business without making marks out of so many people and institutions, but that means that big outrageous profits might not lead to big outrageous bonuses. Bottom line: the officials of a sport can not be a profit center driven enterprise, and the placing of credit ratings on billions and trillions of dollars of investment securities must be placed with a not for profit government agency. The private rating companies have a profit motive and that is the weak link that shut down the system.