The Rise And Fall-4



Let us digress for a moment to revisit the bubble that burst in 2007. It is one that has even up to this day created so much difficulty, pain and despair to millions of people around the world. It has established a mode life for many of unrelenting stress and uncertainty.


The seed that led to economic and financial conflagration in the first decade of this century was planted when the previous Head of the Federal Reserve of America allowed the amendment of the 12-to-1 debt-to-equity (DOE) cap or ceiling for investment banks in the USA. Citing the emergence of so-called “sophis ticated” risk instruments that could ‘handle all major market risks’ to justify a change, it raised the ceiling three-fold to an unprecedented 35-to-1 DOE level.


The immediate effect of this imprudent act increased the stock of papers (in the hundreds of billions) investment banks could now create and on-sell to other financial institutions around the world as collateralised and re-collateralised or ‘securitized’ debt obligations. Sinister, isn’t it, but also utterly corrosive when you combine the elements of greed and lust. Here’s why.


A prudent level of leverage for any bank or financial institution is 12-to-1. But with a 35-to-1 ratio now in place, it meant that U.S. investment banks and their counterparts in financial centres across the globe could potentially generate a 35% return on equity if their exposure income rose by only 1%. That was the good news.


The bad news was that it was also a two-edged sword whose other side was frightfully sharper. If the same position they took reversed by just 10%, they would lose 350% of their original position. It would severely erode their capital. When the sub-prime bubble burst, this is exactly what happened.




Obviously, greed and lust for profits prompted the likes of AIG, Bear Stearns, Lehman Brothers, Merrill-Lynch, Morgan Stanley, Goldman Sachs – all previous ly solid pillars of the US financial pantheon before the burst, to jump in on what they thought was a let’s-make-money-without-end bandwagon.


Greed and lust for easy money had become their new god. Simply put, the financial world was led and allowed to run amok by a few so-called highly-educated and highly-experienced ‘gurus’ and ‘whiz kids’ operating largely in America and their counterparts in Britain, had fallen victim to amorality – the unchecked blinding lust to make money in spite of obviously great risks. Under scored by a lack judgment, prudence and sensibility, they all dove in like swans into a bottomless pit which exhausts in an endless effort to satisfy a hunger that never reaches satisfaction.


Many believe that the financial and economic miasma countries are mired in and especially those who participated in creating it isn’t over yet. It continues to linger on as far as the eye can see. Some are even saying that the “best” part is still to come and one that may prompt the U.S. to declare a ‘bank holiday’ leading to a more painful (and even more dangerous) world-spanning crisis triggered by another crisis. Perhaps that time will come sooner than we think.




The debt ceiling of the United States of America is set by statute and can be raised only by the U.S. Congress sitting in joint session. It is probably the only country in the world that has such a law in place requiring a ceiling on what it owes as against what it owns or makes. This cap was first introduced in 1917 to make it simpler for the U.S. government to finance its efforts in World War I. Since then the ceiling has been raised dozens of times.


The U.S. government spends a lot of money in social security payments, medical care for retirees and the poor, defence, security, foreign aid and regular government expenditures. As of late, however, it has faced costly challenges, some of them by choice, such as bailing out the investment banks and financial institutions involved in the sub-prime bubble burst.


Being the world’s largest economy, it is the biggest market for goods and commo dities produced by all other countries. It is still by any stretch of the mind, the economic engine of the world. But as we can see today, it is faltering and the people who’re in charge at the watch tower appear to be in some kind of daze not knowing what’s about to come down and knock them out cold.


Why? It is because that while the U.S. government makes billions of dollars each day it also spends over and above it before close of each day. On average, the U.S. government spends US$ 300-billion each month or about US$ 10-billion per day, out of which US$ 120-billion per month or US$ 4-billion per day is borrowed. Currently, the US budget deficit – which is the level of expenditures that exceeds its revenues, is about US $1.6-trillion.




Under President George Bush, the national debt of the U.S. soared to US$ 4.36-trillion because of the cost of the wars in Iraq and Afghanistan. However, that also came with US$ 1.6-trillion in new tax cuts. What do you think that means? Well, even more borrowing from the rest of an obliging world. When President Barack Obama came to power, he had to spend an additional $3.9 trillion for economic stimulus packages and to cover decreased tax revenue during the re cession.


A continued regime of deficit spending forces America to borrow, and borrow it does quite grandly relative to the rest of the world. The total debt load (or gross public debt) that the U.S. government now owes today is roughly US$ 14.3-trillion. Out of this staggering number, it owes itself US$ 4.6-trillion (or debt owed to the federal government itself) and the remaining $9.7-trillion (or net public debt) is owed to other parties by way of Treasury securities it prints on paper, which include banks, pension funds, individual investors, state and local governments, foreign private investors and other national governments. The last two in this long list of lenders, as pointed out in Part 1 of this series, are foreign lenders who are owed US$ 4.514-trillion. That’s roughly 46.5% of the amount owed publicly to third parties.



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