The required interest rate payment is 1.4%. This is of course more restrictive and is a disincentive to loan or invest.

And a “over valued” dollar is the principal contributor to our burgeoning trade deficits.

This cannot be achieved by resorting to any type of financial gimmickry. Central bankers are powerless to alter long-term factors that determine the supply of, and the demand for, any particular country’s currency. The chronic and accelerating deficit in our balance of trade is one such factor.

If the dollar were really overvalued, speculators would quickly drive its price down to approximately its purchasing power parity level. Restrictions on, and the enforcement of, black market currency exchanges, are mere palliatives.

Since mid-1970, the foreign exchange value of the dollar has been determined in the open market subject to all of the vicissitudes of a competitive market.. In such a market, it is a contradiction of terms to say that the price of the dollar in terms of foreign currencies is either overvalued, or undervalued, in a chronic sense.

Foreign exchange markets register many unwarranted speculative fluctuations, and these destabilizing fluctuations, are caused by speculators, or by ill-timed, or ill-informed, central bank intervention. Such distortions depart from the underlying long-term supply and demand factors, but these also, are temporary conditions.

Central bankers can buy up the currency of the deficit country, and keep it off the market–temporarily. But these powers have a limited and short term effect. Soon or late central banks will have to reverse their positions. And then this country’s fundamental problems, will return in aggregated form.

To defend the dollar, our standard of living, and become effectively competitive in foreign markets, the U.S. needs to sell higher quality, & lower cost, goods & services. Inferior quality is not a good buy at any price. This declining competiveness of our manufactured goods in world markets, accounts for our mammoth trade deficits.

This is the first time that a reserve currency country could operate with chronic international deficits and not have its currency “dethroned”.

Unless the U.S. is able to make fundamental reforms requisite to successfully compete in international markets, the continued decline of the dollar will finally force a payments balance on us. Under these circumstances, we can expect a long- term deterioration in the stand of living of the vast majority of the people in this country. This country will be forced into economic isolation & into an increasingly totalitarian mold.

I found contradicting comments from you two… Can either of you help me clarifying basic understanding CDS?

Chid’s example had writing $1M of CDS on Twofish’s $300,000 mortgage.

But, Twofish’s comment says, “To redeem a CDS contract you have to present a security that is the subject of the contract. So to get a $1 in CDS return, you have to give them a bond from Freddie and Fannie…”

What happens to the $700,000 remaining CDS?? Will Chid pay them too??

You said CDS loss is likely to be over $1T+. This means about 2-3% loss of CDS notional, which seems to be between $35T-$55T.

I think your estimate is a bit too high. Here I try to explain why I think so.

- Lehman CDS outstanding notional was $400B but net was something between $4-8B (See Yves’ comment at the bottom http://www.nakedcapitalism.com/2008/10/mixed-news-on-credit-crunch-front-libor.html)
- Lehman CDS auction result was 8.6cents/dollar
- Means Lehman CDS loss was 0.9-1.8% of notional
- Not all loans CDS’s are written on went (or will go) as bad as Lehman’s case
- Which means total loss on CDS should be lower than the 0.9-1.8% estimated above.

Would appreciate your thoughts.

Although RebelEconomist and I disagree on whether the United States should oppose mercantilism, we agree on this issue completely. This one is a no-brainer.

Buying foreign currency right now would help to stabilize world currency markets while helping U.S. production and while giving the Fed currency reserves that could help in case of a run on the dollar.

Not only that, but it would likely be profitable. These currencies are irrationally low compared to the dollar at present. The Fed would buy the currencies and then use the proceeds to buy government bonds, just as the Asian countries have been buying dollars and then using the proceeds to buy U.S. Treasuries.

Howard Richman
http://www.tradeandtaxes.blogspot.com

Here’s the list that adds up to $1.8B. I found it on the RGE site, posted by someone adding up the headline news. Like I say, it’s a combination of long term “investments”, and short term borrowing facilities. So it’s not spending, but the Treasury still needs to finance in the next year.

Also, it does not include an amount for expanded discount window borrowings(watch for that in the Fed balance sheet), nor the latest money market guarantees, or money market purchases by that brown nose PIMCO company, nor any other nationalizing of the S&P 500, or exchanges in other parts of the world for that matter.

Also no amount for swaps with foreign CBs, since we are holding their money in exchange. Tho as luck would have it, we might lose money on that one.

=================
—Up to $700 billion to buy assets from struggling institutions. The plan is aimed at sopping up residential and commercial mortgages from financial institutions but gives Treasury broad latitude.
—Up to $50 billion from the Great Depression-era Exchange Stabilization Fund to guarantee principal in money market mutual funds to provide the same confidence that consumers have in federally insured bank deposits.
—The Fed committed to make unspecified discount window loans to financial institutions to finance the purchase of assets from money market funds to aid redemptions.
—At least $10 billion in Treasury direct purchases of mortgage-backed securities in September. In doubling the program on Friday, the Treasury said it may purchase even more in the months ahead.
—Up to $144 billion in additional MBS purchases by Fannie Mae and Freddie Mac.The Treasury announced they would increase purchases up to the newly expanded investment portfolio limits of $850 billion each. On July 30, the Fannie portfolio stood at $758.1 billion with Freddie’s at $798.2 billion.
—$85 billion loan for AIG, which would give the Federal government a 79.9 percent stake and avoid a bankruptcy filing for the embattled insurer. AIG management will be dismissed.
—At least $87 billion in repayments to JPMorgan Chase for providing financing to underpin trades with units of bankrupt investment bank Lehman Brothers. Paulson said over the weekend he was adamant that public funds not be used to rescue the firm.
—$200 billion for Fannie Mae and Freddie Mac. The Treasury will inject up to $100 billion into each institution by purchasing preferred stock to shore up their capital as needed. The deal puts the two housing finance firms under government control.
—$300 billion for the Federal Housing Administration to refinance failing mortgage into new, reduced-principal loans with a federal guarantee, passed as part of a broad housing rescue bill.
—$4 billion in grants to local communities to help them buy and repair homes abandoned due to mortgage foreclosures.
—$29 billion in financing for JPMorgan Chase’s government-brokered buyout of Bear Stearns in March. The Fed agreed to take $30 billion in questionable Bear assets as collateral, making JPMorgan liable for the first $1 billion in losses, while agreeing to shoulder any further losses.
—At least $200 billion of currently outstanding loans to banks issued through the Fed’s Term Auction Facility, which was recently expanded to allow for longer loans of 84 days alongside the previous 28-day credits.

$1,800,000,000,000.00

Re: DTCC clarifications of our misconceptions of the Shadow Insurance Industry.

Now I’m really confused.
“Less than 1% of credit default swap contracts currently registered in the Warehouse relate to particular residential mortgage-backed securities.”

I thought the worry was that CDS are written against MBS, or worse yet, CDOs. Then they could have puts and calls in the CDO futures market and a highly leveraged GS or hedge fund could naked short the global financial system down to zero.

But that’s not it.

There’s this instead!

“One of the many central servicing functions of the Trade Information Warehouse is to calculate payments due on registered contracts, including cash payments due upon the occurrence of the insolvency of any company on which the contracts are written.”

So it’s all the companies in the world that they are pretending to insure against bankruptcy, with no capital requirement from the seller, just an implicit backstop from taxpayers.

At least there is the “sanctity of contracts” in the financial centers of the world which should give the buyers of credit swaps (not legal to call it insurance) a bit of confidence that moral hazard is still alive and working well.

Increases in bank credit & the money stock can be offset by indirectly raising reserve ratios (pegs). Depending upon the FFR formula used for the payment of interest on “excess reserves”, the FED’s new tool can be used as a credit control device (FFR minus 75 basis points on Oct. 9, to (-)35 basis points on Oct. 23).

I.e., payment of interest on excess, & required reserves (inter-bank deposits, held in the Reserve Banks, owned by the member banks, or excess & legal reserves), is method by which the “trading desk” can raise commercial bank reserve requirements .

I.e., the higher the volume of discretionary or liquidity reserves held by the banks; where risk-free payments are applied, (excess reserves & required reserve balances), the lower the banking system’s “ expansion coefficient” , or weighed arithmetic average of reserve ratios applicable to deposit liabilities.

Presumably, the volume of inter-bank lending, and borrowing, will be reduced. I.e., the Reserve Banks will attract a disproportionately larger volume of (interest-bearing) unused, excess-balances, and this will displace trading in the FFR market (where the market risk is unknown).

These balances and potentially excess vault cash, excess clearing balances, and pass-through balances, may be increased, or redistributed, and add to the excess, interest-bearing reserves.

Since 1942 bankers have remained fully “lent up”, i.e., they held no excessive amount of excess legal lending capacity to finance business (or consumers). Excess reserves were used to acquire a piece of the national debt or other creditorship obligations that are eligible for bank investment. “Pushing on a string”?

DTCC Addresses Misconceptions About the Credit Default Swap Market
New York, October 11, 2008 – The idea that the industry lacks a central registry for over-the-counter (OTC) credit default swaps (CDS) is grossly misleading and has resulted in inaccurate speculation on a number of matters, including the overall size of the market, its role in the mortgage crisis, and the size of potential payment obligations under credit default swaps relating to Lehman Brothers. The extent to which such speculation has fueled last week’s market turmoil is difficult to determine. The facts are these:

Central Trade Registry

In November 2006, The Depository Trust and Clearing Corporation (DTCC) established its automated Trade Information Warehouse as the electronic central registry for credit default swaps. Since that time, the vast majority of credit default swaps traded have been registered in the Warehouse. In addition, all of the major global credit default swap dealers have registered in the Warehouse the vast majority all contracts executed among each other before that date.
Size of the Market

Reported estimates of the size of the credit default swap market have so far been based on surveys. These surveys tend to overstate the size of the market due to each party to a trade separately reporting its own side. Thus, when two parties to a single $10 million dollar trade each report their “side” of the trade, the amount reported is $20 million, which overstates the actual size by a factor of two since both reports relate to a single $10 million contract. When examining the outstanding amount of actual contracts registered in the Warehouse (not separately reported “sides”) as of October 9, 2008, credit default swap contracts registered in the Warehouse totaled approximately $34.8 trillion (in US Dollar equivalents). This is down significantly from the approximately $44 trillion that were registered in the Warehouse at the end of April this year.
Percentage of the Market Related to Mortgages

Less than 1% of credit default swap contracts currently registered in the Warehouse relate to particular residential mortgage-backed securities. Mortgage-related index products also have some components relating to residential mortgages and, as a whole, also constitute a relatively small fraction of total credit default swaps registered in the Warehouse.
Payment Obligations Related to the Lehman Bankruptcy

One of the many central servicing functions of the Trade Information Warehouse is to caculate payments due on registered contracts, including cash payments due upon the occurrence of the insolvency of any company on which the contracts are written. Calculated amounts are netted on a bilateral basis, and then, for firms electing to use the service, transmitted to CLS Bank (the world’s central settlement bank for foreign exchange) where they are combined with foreign exchange settlement obligations and settled on a multi-lateral net basis. Currently, all major global credit default swap dealers use CLS Bank to settle obligations under credit default swaps. It is expected that all major institutional players in the credit default swap market will use the same process for settlement by the end of 2009.
The payment calculations so far performed by the DTCC Trade Information Warehouse relating to the Lehman Brothers bankruptcy indicate that the net funds transfers from net sellers of protection to net buyers of protection are expected to be in the $6 billion range (in U.S. dollar equivalents).
DTCC has long supported the U.S. and global capital markets as a critical part of their operational infrastructure.We stand ready to play a constructive role in whatever overall regulatory environment ultimately emerges for the credit default swap market. We do believe, however, that whatever environment emerges should be based on assessment of the facts as they stand, rather than speculation.

About DTCC
DTCC, through its subsidiaries, provides clearance, settlement and information services for equities, corporate and municipal bonds, government and mortgage-backed securities, money market instruments and over-the-counter derivatives. In addition, DTCC is a leading processor of mutual funds and insurance transactions, linking funds and carriers with their distribution networks. DTCC’s depository provides custody and asset servicing for more than 3.5 million securities issues from the United States and 110 other countries and territories, valued at US$40 trillion. In 2007, DTCC settled more than US$1.86 quadrillion in securities transactions. DTCC has operating facilities in multiple locations in the United States and overseas.

DTCC Deriv/SERV LLC, a wholly-owned subsidiary of DTCC, provides automated matching and confirmation for OTC derivatives contracts, including credit, equity and interest rate derivatives. According to major market participants, over 90% of credit derivatives traded globally are electronically confirmed through Deriv/SERV. The Trade Information Warehouse, a service offering of Deriv/SERV launched in November 2006, is the market’s first and only comprehensive trade database and centralized electronic infrastructure for post-trade processing of OTC derivatives contracts over their lifecycles, from confirmation through to final settlement.