What the 'Subprime' Mess Is Really About

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It's about
the international fiat monetary regime's denouement, and of course
the Ron Paul presidential campaign.

Even the popular
name of this "crisis" — implying that the whole problem
is "subprime" borrowers with sketchy credit histories
— is really just more disinformation. Shaky American borrowers defaulting
on their home loans are indeed a great danger, but in the same way
that a free press is a danger to despotic government. It is the
danger of exposure. It is the end of plausible deniability. If the
"markets" of the world perceive — finally — that the emperor
has no clothes, the nearly century old game may be over.

First, a little
background. Forgive all the quotation marks, but it's important
to maintain a healthy skepticism when considering this subject.

When a "lender"
(usually a bank) makes a "loan" to a "borrower,"
the borrower executes a legal instrument known as a "note,"
sometimes also called a "bond." The "note" or
"bond" is the borrower's promise to repay the "loan"
at such and such an interest rate, over such and such a period of
time, consisting of monthly payments in such and such an amount.

There's a lot
more to explain here, but first, before we go there, pull out your
wallet and take a look at any currency you have in there. You will
notice that the currency is also called a "note." Just
like the "note" the "borrower" executes to the
"lender," the currency is a promise to pay, but in the
case of currency it is minus the interest rate or period of time.
Currency notes are "payable to the bearer on demand,"
also called "bearer paper" and "demand notes."

But if one
kind of note functions as currency — money, really — why can't another?
Why indeed. No reason at all. In fact, since in the absence of a
gold standard currency "notes" are ultimately unredeemable
promises, other kinds of notes are arguably better than currency.
Particularly if they are "backed" by something of "tangible"
value — like, say, real estate — which is something government currency
can't claim.

This reasoning
— and it is valid reasoning — led to a state of affairs in which
home mortgage loan paper (the "notes"), primarily from
the United States, began to "circulate," just as currency
circulates among individuals. This paper, and derivatives of it
like CDO's, mortgage-backed securities, CLO's, SIV's, have by now
gone all over the world and for all intents and purposes function
as "money" in the world's banking systems, constituting
financial "assets" on their books. The nominal aggregate
value of all this American mortgage loan paper is many, many trillions
of dollars. This actually — and somewhat ironically — dwarfs the
nominal value of all official but un-backed US government paper
currency in circulation.

Notice I say
"nominal" value. This is important. Because while the
essence of the international fiat monetary regime is that nothing
can have a fixed, permanent or finally determined value, everything
must have a "nominal" value, otherwise buying and selling
— that is, trade and economic activity itself — would be impossible.

Yet the "market,"
like the human beings who comprise it, craves precisely assets of
a fixed, permanent and finally determined value. This is the basis
of the great financial asset game of the 20th century
just past: the hoi polloi chasing and acquiring assets they believe
to be of permanent value; and the rulers — sometimes slowly, sometimes
abruptly — then destroying the value of those assets, in part because
not to do so would undercut the regime itself.

The regime
is a jealous god.

So the home
loans of the hoi polloi, and the homes themselves "backing"
the loans, were eventually transformed into "financial assets"
like everything else, then sold and marketed all over the world
at their nominal value. The current "crisis" is the result
of this nominal value being called into question and tested at its
very foundation, through the only true "mark-to-market"
events that can ever apply to such assets: default, foreclosure
and auction of the "collateral" — the homes of the "borrowers."

The problem
is, if there's one thing we've learned in the world of financial
assets over the last 20 years or so, it is this: the process of
questioning and testing their value invariably reveals a cesspool
of scandal and fraud. Mortgage-backed paper is no different.

In truth, lenders
have been systematically concealing the market value of this paper
through a fairly simple and universal manipulation of the foreclosure
process: when a property is foreclosed and "publicly"
auctioned, the lender itself bids in the amount it claims to be
owed at the auction, thus insuring that there is never a loss on
the loan itself, since the loan is always "paid in full"
at the auction.

When it is
the successful bidder — as it almost always is — the lender then
winds up owning the property. When the property is finally sold
by the lender, there is normally a loss; but technically, that is
not a loss on the loan itself. That does not damage the value of
the original "paper."

In this way
mortgage paper and its many derivatives can be and have been marketed
as very "safe" investments, providing a "good return"
with "no risk of loss." But of course there is no such
thing. There is a risk of loss; it has just been hidden.

Now that risk
is materializing. As defaults and foreclosures increase, the lenders
have to pay out more and more to hide the losses. But the lenders
can only make this up by making more loans, because this is how
they increase their cash flow; and now it is clear they can make
more loans, and thereby increase their cash flow only by simultaneously
increasing their losses, since their "loans" are proving
to be losers. So no one wants their "paper" anymore, because
— well — it's the financial equivalent of toxic waste. The "subprime"
stuff is just the first surge: the tidal wave is close behind. Because
all of it, the subprime, the prime, the AAA and everything in between,
is the product of a previously hidden, but now obvious…Ponzi scheme.
A Ponzi scheme that is in the process of unraveling, as all Ponzi
schemes eventually do. And what person wants to be the last idiot
to buy into a Ponzi scheme?

So now the
lenders are squeezed on all sides: they have defaults bubbling up
from underneath; they can't access credit on their now questionable
paper; and it appears their whole business is structurally geared
to lose money. One by one they begin firing their CEO's, warning
their investors (closing the barn door after the horses are gone,
but what else is new?), being investigated, probed, etc. We all
know the drill. Some very big names are already involved.

This is all
supposedly "very scary." The credit markets are "seizing
up." The Federal Reserve is doing this and that, but even they
can't fix problems in the tens of trillions of dollars. Oh sure,
they can goose the stock market, but only temporarily. They put
the money in but it all comes back out within a few days. The whole
idea is just to get the lemmings to jump in after them. But it only
takes what — $40 billion max? — to pull that stunt. The mortgage
backed paper problem is many, many times bigger, and can't be solved
in a few days of goosing.

Now. Why is
all this a threat to the international monetary regime?

It's really
very simple: debt cannot be money, this whole debacle is showing
emphatically that debt cannot be money. But the regime is built
entirely on the principle that debt is money.

It's an elegant
deception. In the world of accounting, my debt is an "asset"
on the books of my creditor. There is nothing really wrong with
looking at it this way, and indeed it is a useful fiction to "account"
for economic relationships. But we cannot lose sight of the fact
that it is a fiction. A "receivable" based upon someone's
promise to pay is not the equivalent of a hard asset that does not
depend upon someone's promise. A "promise to pay" cannot
be "payment" — by definition.

But because
the regime says otherwise a worldwide home mortgage paper market
with a nominal value in the tens of trillions of dollars — all debt
— exists, though it appears not for much longer. And compared with
that market the Federal Reserve System itself, with all of its regional
branches, its Board of Governors, its "congressional mandate,"
its annual reports and so on, is a mere trifle. We could so easily
be rid of it.

And that brings
us to Ron Paul. Talk about being in the right place at the right
time.

November
14, 2007

John M. Regan, Jr. [send
him mail
] is a sometime attorney precariously living in Rochester,
New York.

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