If you are new to this blog, you are invited to read first “The Largest Heist in History” which was accepted as evidence and published by the British Parliament, House of Commons, Treasury Committee.

"It is typically characterised by strong, compelling, logic. I loosely use the term 'pyramid selling' to describe the activities of the City but you explain in crystal clear terms why this is so." commented Dr Vincent Cable MP to the author.

This blog demonstrates that:

- the financial system was turned into a pyramid scheme in a technical, legal sense (not just proverbial);

- the current crisis was easily predictable (without any benefit of hindsight) by any competent financier, i.e. with rudimentary knowledge of mathematics, hence avoidable.

It is up to readers to draw their own conclusions. Whether this crisis is a result of a conspiracy to defraud taxpayers, or a massive negligence, or it is just a misfortune, or maybe a Swedish count, Axel Oxenstierna, was right when he said to his son in the 17th century: "Do you not know, my son, with how little wisdom the world is governed?".

Sunday, 23 August 2009

Lord Mandelson concluded that bankers were scammers

Lord Mandelson stated that "The rewards (for bankers) need to be linked to risks. The problem is when excessive rewards start driving excessive risk taking." An enterprise has no choice: it must take a risk in the course of the business operations. This is in a nature of the economy. However it must always be a calculated commercial risk. It can be never an "excessive risk". Taking "excessive risk" is a legal wrong and, if it caused any damage, it must be pursued under civil law to obtain compensation from "excessive risk takers". It must also be investigated under criminal law. As Lord Mandelson effectively admitted bankers were rewarded for "excessive risk taking" since he was referring to the current crisis not some hypothetical situation. Hence, according to Lord Mandelson, bankers committed fraud. As explained in the seminal article on this blog, "The largest heist in history" the mechanism of this "excessive risk taking", i.e. fraud, was turning the global banking system into a giant pyramid scheme.

It is very refreshing and encouraging that a very senior British government official, effectively the Deputy of the Prime Minister, admitted that the financial community committed fraud from which it benefited. He was very clear that "taking excessive risk" was a euphemism for committing fraud. The taxpayers have all the right now to demand that the government will draw the conclusions from the Lord Mandelson's words: pursue a huge number of financiers on the charges of fraud and confiscate their wealth in order to compensate the taxpayers for the result of this fraud.

Friday, 14 August 2009

Curbing City pay will give it competitive advantage

In the wake of financial collapse in autumn last year, after the British government pumped in massive amounts of taxpayers' monies into the financial system to prevent a complete meltdown (and the government became a large shareholder in the banks), the government (and the regulator, FSA) promised to curb huge salaries and bonuses of financiers. As the time passed, these promises have not materialised. Quite the contrary, in terms of bankers pay, it is business as usual. FSA published a proposal which is a grotesque version of the original promises. Assuming that taxpayers are half-intelligent, it looks like a deliberate insult to them.

The reason given why bankers' pay packages cannot be drastically reduced is that this would drive the top banking talent out of the City; that the best bankers will be poached to work abroad.

Behind such reasoning, there is an underlying assumption that the most talented people's choice of career is only financially driven. It is clearly not the case. If it were the case specific to the financial industry, it would also be true across the industries. Yet whilst some clever young scientist, doctors, analysts move to financial industry, this brain-drain is very limited. Top research institutions and universities, health service, civil service, oil and gas industry and so on, do not lament that the market is short of top talent as it is drained by the banking sector. There is no attempt of others, including very rich sectors like oil and gas, to match City salaries and bonuses.

This is no different to sport: we do not observe a lack of top talent in cycling and rowing, because football and golf pays much better. The lack of success in some sports is simply down to lack of tradition, infrastructure and resources to develop talent.

Huge majority of young people choose their career path based not only on financial reward, but also on what they like to do. Their interests, ambitions, prestige and a mission they sense play a big part. In any profession with a reasonably good pay and career prospects there is no shortage of young and talented newcomers. Only a small number of youngsters, very often not very talented or lacking clear interests, cynically decide on their career path based on financial rewards. In effect, perversely, astronomically paid banking jobs do not attract the top talent suitable for finance, but the greediest with loose morals, determined to do what it takes to make a lot of money for themselves. The pathology of that situation reached such a high point that stating this openly has been in vogue amongst the City "highfliers".

There is also evidence that it is not the most talented that get promoted to top jobs in finance, but the most greedy, aggressive, who know how to play company politics. It is enough to go to professional fora to realise that there were banking industry insiders, who were warning that a crisis such as the one that is happening was only a matter of time, since the business model became unsustainable. They were professionals but not the ones that were fast-tracked on their career ladder. The scale and character of the current financial crisis has shown that, to a massive degree, so called "financial professionals", especially on the top level, are unable to distinguish between taking a legitimate commercial risk and acting fraudulently or, worse, some of them choose to act fraudulently but use "taking a commercial risk" argument as an excuse for their actions. There is evidence that the CEO of one of the largest banks in the world does not understand such basics as mechanisms that govern balance sheets dynamics. Yet somehow he became a CEO.

Indeed it looks that big pay packets in finance attract the top talent: but not the one that banking really needs. It is a talent to use greed, skills in company politics, arrogance, posturing to cover monumental incompetence in climbing a corporate ladder. This ilk of people has hijacked the financial industry. No wonder the current crisis was caused by a criminally engineered pyramid scheme (as it was described in the first article on this blog "The largest heist in history") which is exactly the same in mechanics as Albanian pyramid schemes in 1996 - 1997.

But why did it happen that the bankers are paid so much? They are the first in the pecking order of financial management of a value creation. They manage billions and trillions of pounds, so only a tiny fraction of a percent of such amounts makes them millionaires. But this does not give them an automatic right to such a "tiny" fraction of the funds under their management. Interestingly bankers are not unique. Tax officials also collect and manage a huge number of billions of pounds. Yet no one argues that their pay should be based upon a revenue of their tax collection in such a direct way as the bankers', although they are the first in the pecking order of a state tax revenue collection and state finances depend heavily on their performance. However historically, in Biblical times as well as more recently (like in France in the 18th century) tax officials’ pay was also based, like bankers, directly upon the revenue under their management. Indeed, in those days, tax collectors had gained the same notoriety as the bankers did in the last few decades, since "greed is good" philosophy became an acceptable moral standard in finance. History proved that such approach was massively inefficient and, quite often downright fraudulent, as tax collectors were working, like today’s bankers, for their own benefit. There was also an argument, like today, that if their rights to pay had been curbed they would have been able to collect even less for a state. However modern states reasserted their authority in that respect and tax officials are paid now very decent salaries (even with some performance related pay), but in line with top professional jobs. This is how should be with the bankers as well.

And if, what is called, "top talent" leaves the City, it will be a great and desirable result of such policy. It will, hopefully, cleanse the City of greed, criminal incompetence and downright criminality that drove the banking industry to fraudulent activities (like pyramid schemes referred to above). If they get jobs in different financial centres, it will give the City competitive advantage: let them wreck competitors.

The financial sector will not be short of top talent. Assuming that top bankers' pay will be on a level, say, of top geologists' or economists' in the oil and gas industry, or brain surgeons, there will be plenty of very clever people with integrity, not driven by a sheer greed, that will develop their talents as real top financiers, not pyramid purveyors. This approach is not egalitarian or driven by some kind of equality: this is about eradicating pathology and restoring commercial sense to the financial industry.

PS. Cityboy on City bonus culture: "A banker's guide to bonus day".

Wednesday, 12 August 2009

Liquidity risk

In response to the assertion by the author of this blog that the financial system was turned into a pyramid scheme, the CEO of one of the world largest and best known banks wrote to the author, justifying his denial of this assertion (calling it ”completely baseless” ):

"Banks certainly undertake a process of maturity transformation – that is the fundamental responsibility of banks: to borrow short and lend long. In doing so, banks take what I would call liquidity risk: the risk that at any point in time a creditor might demand repayment, but the bank is unable to provide that because it does not have cash to hand because the borrower is not due to repay their loan for some time. That is wholly different from a pyramid scheme where the borrower has no idea where the funds are going to come from when the obligation is constructed."

The author of this blog responded:

The understanding of a pyramid scheme as "where the funds are going to come from when the obligation is constructed" is manifestly insufficient. On one side even if a bank lends money to someone (like a small business) applying in the process loan to deposit ratio below 100%, ultimately it may also have "no idea where the funds are going to come from" as a borrower must get his funds from somewhere and so on. This is how a value chain is created. Yet it will not constitute a pyramid scheme although it may possibly be a risky and irresponsible lending.

On the other side a pyramid scheme is not about an idea "where the funds are going to come from when the obligation is constructed" but sustainability of deposit – loan cycle, or more generally circulating money in the economy. Therefore if a loan to deposit ratio is above 100%, such cycle is unsustainable as an exponential growth of balance sheets is unsustainable. (Incidentally a name "pyramid" comes from the shape of a graphic presentation of exponential growth which looks like, surprise, surprise, YES: a pyramid!) This is a conclusion well known for centuries in many different walks of life, starting from children's game of sending a postcard to an addressee at the top of the list of 10 (and then removing it from the list), adding own name in the bottom and finding, say, 10, other kids who would repeat the process. (If it worked every kid in that game would have received 1010, 10 billion, postcards.) This universal principle is not changed by the fact that banks think they know "where the funds are going to come from when the obligation is constructed".

A good example is lending with loan to deposit ratio of 117%. If a trader was lending with loan to deposit ratio of 117% and a pace of a cycle was one a day (not an unrealistic assumption on the current electronically powered markets), and s/he did it for a year (approx. 220 working days) then, out of every £1, his/her last advance in a year (220th) would have been over a £1 quadrillion (1.17220), having totally advanced in a year over £5.89 quadrillion. So in terms of liquidity, £1 cash, would have to cover over £5.89 quadrillion worth of potential demands (liabilities). And, if lending with loan to deposit ratio continued at over 100% loan to deposit ratio, there is no supremum: technically it can go to infinity very fast, at exponential pace. Therefore in terms of what was called by the CEO "liquidity risk", this risk keeps growing approaching very fast 100% (certainty). Such a risk is, of course, not acceptable as it is a near-certainty of collapse. ("Near" is a technical term put for correctness: in practice it may be omitted.)

Due to non-sustainability of lending with loan to deposit ratio above 100%, the expected known sources of the funds when the obligation was constructed would default in great numbers at some point in not too distant future, i.e. "liquidity risk" is practically 100%. This point is called a pyramid scheme collapse. Because of practical "liquidity risk" of 100%, pyramid schemes are illegal.

By contrast, whilst lending with loan to deposit ratio below 100%, called "fractional reserve banking" still carries "liquidity risk", it is a contained risk. E.g. with loan to deposit ratio of 90% every £1 has to cover maximum £10 of potential demands.

Putting in layman’s terms: fractional reserve banking brings a risk that we, as society, decided to live with, as in a long run and not without its problems it ensures very efficient economic development; lending with loan to deposit ratio above 100%, that can be called depleting reserves banking, is a sheer madness, a pyramid scheme guaranteeing a quick and spectacular failure.

The CEO also wrote further:

"Your [i.e. the author of this blog] logic assumes that all original money in the economic system, and all money extended as credit from then on, eventually returns to banks in the form of deposit. That assumption may have approximated reality some years ago, but it does not today. In fact, a significant, and growing, portion of households savings, for example, is invested directly in money markets and mutual funds. Some of that investment (what would have otherwise been deposits), in turn, flows back to banks in the form of wholesale funding because those money market and mutual funds purchase banks debt. But it clearly isn't captured in the loan-to-deposit ratios you quote."

The author of this blog responded:

Fractional reserve banking, which is based on loan to deposit ratio below 100%, is about creating a reserve at every point of circulating money in the economy when money is passed with a risk (traditionally it was a deposit turned by a bank into a loan and banks were risk brokers). The above example of investment turned into wholesale funding on money markets is exactly the same thing under a different name: someone’s investment turned into wholesale funding ends up on the market, say, as a mortgage, which in turn, through, for example, a purchase of a house and then house seller's investment, may come back on the market as investment and then as a part of wholesale funding, and so on. Basically "investment – wholesale money market cycle" must be considered as a part of "deposit – loan cycle" for the purpose of loan to deposit ratio. And, if it were not, it would be perverse.

The CEO continued:

"All that said, banks increased reliance on wholesale funds was one factor that exacerbated the banking crisis of last year, because it heightened liquidity risk. All those market participants that used wholesale funding, but particularly banks like Northern Rock and Lehman Brothers, rediscovered last September that wholesale funders demand their money back in large volume and more quickly than retail depositors. Put differently, wholesale funding isn't nearly as 'sticky' as retail deposit funding."

The author of this blog responded:

By associating with mutual funds earlier on, the CEO suggested that there was no structural reason for wholesale funding to be less "sticky" than retail deposit funding. Quite the contrary, considering typical maturities of mutual funds and deposits, wholesale funding should be more "sticky". Therefore this is a good indication that investment and wholesale funding money market constituted a pyramid scheme (in a technical, legal, sense). As "liquidity risk" of pyramid scheme is practically 100% (guaranteed collapse), "stickiness" of wholesale funding was decreasing at exponential pace, guaranteeing liquidity crisis as a matter of a short time. [More on "stickiness" in Appendix A below.]

If, as it appears, a loan to deposit ratio below 100% was not applied to "investment – wholesale money market" transactions, this would prove that one of mechanisms of pyramid scheme construction was "investment – wholesale money market" transactions. It is not wholesale market as such that failed, but that wholesale market was turned into a pyramid scheme, and the failure was not only inevitable but easily predictable. It looks like a very serious crime.


"Stickiness" is an average demand level of a depositor in a bank or investor in a fund to demand his/her money back. It depends on two factors:

- an average willingness of depositors (i.e. who are creditors of a fund, bank, etc) to withdraw money; there is an element of unpredictability (like general economic conditions, political situation, panic, at worst "bank run") but more less it is an equal playing field for all competing funds/banks; depositors may move money between them due to better prospective returns but money stays on the same market;

- loan to deposit ratio (i.e. a proportion of deposits/investment that is advanced further by a fund/bank with a risk) defines how much money is kept as reserve for any payment demand by depositors; if loan to deposit ratio is below 100% it guarantees a pre-defined level of reserves (e.g. loan to deposit ratio of 90% guarantees 10% reserve, in practice it means that every £1 of real money has to serve up to £10 of potential demands resulting from willingness to withdraw money); if loan to deposit ratio is above 100% then no reserve is created (in fact, it the existing reserves get depleted) but potential demands keep growing at exponential pace with no maximum (e.g. in practice, it means that that every £1 has to serve £2 then, very soon, £4, very soon, £8, and …. , soon, £1024 and so on, technically, infinity)

Therefore it follows that even if an average willingness of depositors to withdraw money is very low, with loan to deposit ratio above 100%, this low willingness will become irrelevant, as quite soon in that process, there will be not enough real money to serve any demands to withdraw money. Due to exponential pace, this is a matter of a short time, regardless how low an average willingness of depositors to withdraw money is. Lending, or turning an investment cycle, with loan to deposit ratio above 100% guarantees an exponential, i.e. extremely fast, growth of "liquidity risk" to 100%. For practical reasons it should be assumed as 100%. This also has to be combined with an "aftershock" effect: once a word starts going around that depositors cannot withdraw money, the confidence goes down and willingness to withdraw money grows, causing a "bank run" which in case of lending with loan to deposit ratio above 100% is a pyramid collapse. The case of Northern Rock showed that mechanism vividly: only government guarantees, assuring liquidity, prevented the inevitable collapse.

This is a very likely reason why some investments, like through mutual funds, on wholesale market that traditionally would be expected to be more "sticky" than typical high street bank deposits turned up to be less "sticky". Surprise? Not to a reasonably competent financier.

Financial press commentators, like Ms Gillian Tett of the FT, very often talk about market confidence without understanding that the real, based on numbers on the banks' balance sheets, effect of a pyramid scheme (i.e. a massively unsustainable size of banks’ balance sheets that each £1 cash has to serve), can easily override any psychological attempt of confidence restoration. More analysis on "A matter of confidence".

Saturday, 8 August 2009

Why banks are still not lending?

Mr Robert Peston, a BBC Financial Correspondent, disclosed on his blog information on Royal Bank of Scotland and Lloyds. Assuming other banks follow the same or, more-less, similar practice (and it is very likely) this appears to explain, why banks are not lending on the level that normally would be expected from such institutions. He wrote:

"Take Royal Bank of Scotland. Today, its chief executive has set a target to reduce its ratio of loans to deposits from 156% to around 100% by 2013. (…) And there's a similar story for Lloyds. In the six months from 31 December to 30 June, its ratio of loans to customer deposits has fallen from 166% to 152%, as it has simultaneously increased deposits by £20bn and reduced loans and advances by £25bn."

This information confirms that both RBS and Lloyds were lending with loan to deposit ratio above 100% reaching the current level of loans to deposits. Mr Peston does not write what is the actual level of loans (and also deposits) in monetary terms. It is this factor, that resulted in overblown banks’ balance sheets, which led to liquidity crisis. This is why, to prevent a collapse, the government had to provide fresh liquidity (in form of cash injection, guarantees and now “quantitatively eased” cash) to increase banks’ reserves to secure overblown balance sheets.

Although it is not clear from Mr Peston reporting, there is an indication that these two banks (and possibly many others) could still be lending with loan to deposit ratio above 100%. And in case of RBS the ultimate target is actually 100%. This indication comes from slow lending, very little liquidity provided onto the market by the commercial banks.

This situation appears to be (and it definitely has been) perverse. If banks lend with loan to deposit ratio above 100% their profit margin model is as follows:

L*I(L) – D*I(D) > 0

(where L is value of loans, D is value of deposits, I(L) is interest paid in by customers on loans, I(D) is interest paid out by banks on deposits)


(where LD is the current ratio of loans to deposits)


D*LD*I(L) – D*I(D) > 0

LD*I(L) – I(D) > 0

As LD is above 100%, this model allows what one would consider as impossible: pay higher interest on deposits than to collect on loans. This is easy money for a bank. This explains why for years of the credit boom banks were able to offer very low (quite often 0%) interest rates on loans and still pay quite attractive rates on deposits. This completely distorted competition on the market as well as pay packages of the bankers.

But such bonanza could not last forever. As described in the seminal article of this blog "The largest heist in history" this is a pyramid model, called “depleting-reserves banking” as this results in reserves depletion, (depleting reserves at [loan-to-deposit ratio] – 100% at every cycle of deposit – loan cycle). Having nearly gone bankrupt, the banks are now very weary not to deplete the reserves (provided by the government actions) too quickly. Hence they are lending very slowly. The deposit - loan cycle pace is very slow. This slows down the process of reserves depletion but unfortunately is also severely restricts liquidity on the market, which is based on circulating money in the economy. Banks have a perverse incentive to hold on to cash and limit lending.

If banks were lending with loan to deposit ratio below 100% (as they traditionally had been doing for centuries), the same formula:

LD*I(L) – I(D) > 0

would still apply.

However, as this time LD is below 100%, the interest on loans must be higher than on deposits in order for banks to have a positive profit margin, to make money. Therefore banks would find it harder to make profit, i.e. they would have to be more costs efficient in their operations. This would mean that less money would be available for big bonuses. However banks would be able to circulate money in the economy as fast as they could as at every deposit – loan cycle they would have generated reserves at 100% - [loan-to-deposit ratio] level.

The government must therefore examine whether banks are still lending with loan to deposit ratio above 100%. The above shows that such practice is criminal as it is a result of a pyramid scheme structure. If they still do (as the signs do indicate) the government must ban it. It creates a perverse situation of further depletion of reserves, effectively slows deposit – loan cycle and creates an inefficient competition environment for the financial industry combined with over-inflated remuneration packages, which effectively come from the loot: reserves depletion. Most likely it is a systemic problem: so all the industry should be examined, not particular institutions. Let us face the real problem: the business model that the financial industry developed in the last few decades is a parasite on a real economy.

The above is on top of other concerns highlighted in the articles: "Is another loot going on now?" and "How to make money?"

Friday, 7 August 2009

Comments to "Whose money?" publication

This post should be beneficial to those who struggle to understand qualitative and quantitative difference between lending with loan to deposit ratio below 100% and above (or equal) 100%.

A portal "Whose money?" published comments to my article "The largest heist in history". The comments were as follows:

"Whose Money? says:

This is a very interesting explanation of what has gone wrong - and the reference to assets hived off by Northern Rock suggests that those responsible for the present breakdown took great care to look after their own interests as their tampering caused the pillars of the debt-based financial system to come crashing down on millions of trusting people.

Mr Pytel, however, still believes that "if administered properly" the present reliance on debt to provide us with all of our non-cash currency "serves the economy and public at-large very well".

We disagree. The history of repeated risk-taking by banks in search of extraordinary profits suggests that there is no chance of ensuring stable underpinnings for the productive economy until we stop relying on private, profit-making businesses - which naturally have their own, very different, priorities - to provide the nation with its means of exchange and distribution.

Reliance upon continuous, and ever-increasing amounts of borrowing to keep money in circulation does not work. Again and again the alternation first of excessive, then of inadequate lending has led to boom and bust. Moreover, the productive capacity of the nation is distorted when bank lending favours money-making schemes over those which would actually increase the sum of real wealth.

It's time for a fundamental examination of how the economy works, and how best to provide it with money, with the aim of maximising beneficial production and spreading prosperity."

In response the following letter was sent to “Whose money?” Editor:


I do appreciate publication of my article "The largest heist in history" ("Financial crisis? It’s a pyramid, stupid.") http://www.freewebs.com/whosemoney/newsandcomment.htm However I wish to point out to you that your comment below my article suggesting as if I were advocating "reliance upon continuous, and ever-increasing amounts of borrowing" is incorrect. I also completely agree with you that it would not work.

Let me recapitulate as it seems that you missed a critical technical point of lending:

1. With loan to deposit ratio (L/D) below 100% you do not achieve "continuous, and ever-increasing amounts of borrowing". Example,

- L/D = 90% gives you maximum £10 of debt for every £1 in circulation

- L/D = 75% gives you maximum £4 of debt for every £1 in circulation

- L/D = 50% gives you maximum £2 of debt for every £1 in circulation

- L/D = 25% gives you maximum £1.33(3) of debt for every £1 in circulation

- L/D = 0% gives you maximum £1 of debt for every £1 in circulation (no money creation)

2. With loan to deposit ratio above (or equal) 100% you indeed have "continuous, and ever-increasing amounts of borrowing" i.e. it can happily go to infinity. And very fast indeed if above 100%. This is what is at the root of the current crisis. This is what I am strongly against. Indeed it is a crime called a pyramid scheme.

The history shows that lending with loan to deposit ratio between 75% and 90% can be used to achieve healthy growth (and it does not bring about "continuous, and ever-increasing amounts of borrowing"). Occasionally it can be higher or lower: it should be controlled in the same way, as interest rates depending on economic conditions. Here there is a room for a debate.

You simply seem to argue for L/D = 0%, which I believe is going into extreme. (It is like assuming, that since every human can eat half a kilo potatoes a days, the world should grow that amount. Once you grasp this parallel you will understand that we have to live with an element of statistical approach, as otherwise it will be ineffective.) I will add that lending with L/D approaching 100% can also cause massive problems.

Lending with L/D above 100% is crazy and indeed a crime.

I believe you should be able to distinguish these two diametrically different scenarios: L/D below 100% and above (or equal) 100%. Lumping them under one description "continuous, and ever-increasing amounts of borrowing" is simply incorrect.

However I believe that not only did bankers behave irresponsibly or in a greedy way, but they were acting illegally and dishonestly. That is why I am calling for criminal investigation to the causes of the current crisis and prosecutions.

Please publish this letter below your comments to my article.

Yours sincerely

Greg Pytel

Thursday, 6 August 2009

How to make money?

Hedge funds operate in a highly unregulated environment, operating through string of companies in various jurisdictions, many of them offshore. Below is a simple recipe how to make big money:

1. A hedge funds lends a lot of money (say, $100mil) to a company.

2. Then a hedge fund buys "insurance" on this $100mil, say, 10 times over. So in case of a company-borrower default on $100mil, a hedge fund gets $1bn.

3. In parallel a hedge fund takes over some control over a company on one side, and on the other, pulls the plug on this $100mil loan, demanding repayment, forcing a company into default and bankruptcy. When it happens a hedge fund ends up with $1bn payment (minus some millions of the costs of operations).

(For all those not that clever in finance, it is the same strategy as if you insured your house 10 times over, and then left on holidays without turning off the 30 years old chips deep fryer.)

As suggested in an article, ”Is another loot going on now?”, a lot of taxpayers’ money that was used to rescue the banks, or has been supplied as a part of quantitative easing, is likely to end up in offshore companies, hedge funds and all that. If you ever wondered how they make loads of money, you have this example above. There are many more other ways. It is a self-perpetuating machine that is designed to make money for financiers involved and rob shareholders, stakeholders, taxpayers, etc: to hold them by their throat, in the same way as loan sharks control their victims. It is not really that clever or intelligent: an par with sophistication of Albanian gangsters in 1996 -1997.

The fact that the system allows such arrangements means that it is criminal and the prosecution authorities must look into it. The fact that the politicians, our elected representatives, allow for such arrangements makes them materially and criminally responsible.

Tuesday, 4 August 2009

Is another loot going on now?

As indicated in "Held by the throat" article, the banks are posting very good results. Is it not amazing that in the midst of the recession, crisis, the banks are making so much money? The question that must be addressed is how, possibly, these profits are made.

As described in the first seminal article of this blog, "The largest heist in history”, it appears that the current banks profits are simply the government injected cash converted into practically worthless toxic waste that sits on the banks books. A lot of it sits offshore. If this is the case this would confirm that the banks have created an arrangement with the taxpayers working in the same way as loan sharks control their victims (as described in articles on this blog).

It appears that the following scenario is unfolding now:

1. The government injected cash, directly, through guarantees or quantitative easing, has been and is being converted into toxic waste held by their legally off-balance sheets entities offshore. No wonder this cash is not finding its way to Main Street and ordinary businesses. It is clear that it has never been the banks intention.

2. The “market price” (through “mark-to-market” and other fraudulent techniques) of this waste is held quite high. This appears as a stock market rally and lets the banks to convert cash for as much as possible toxic waste, looking like legitimate commercial transactions. This shows up on banks’ results as profits made.

3. This toxic waste, temporarily appearing valuable and liquid, is also booked by the banks as capital replacing the cash reserves injected by the government. As long as its price holds up it gives an impression as though the banks’ books look healthy.

4. However the entities that are selling this toxic waste are simply holding to cash, most likely offshore, thereby reducing the cash liquidity on the market. Or, quite likely, deploy one of their "sophisticated" strategies like the one outlined in an article "How to make money?"

(Mr John McDonnell MP summarised an offshore set-up in the context of Northern Rock and its offshore company Granite : "it's officially 'on' its balance sheet in its accounts. But it is legally 'off' its balance sheet when it comes to getting hold of its assets as the basis for the security of the sums owed the Treasury. (…) The participants in this tax dodge will be allowed to walk away with millions, when workers may lose their jobs and the taxpayer risk billions." Well, by now, with respect of the entire banking system, we have to think in terms of billions and trillions.)

5. Once the banks run out of cash, we will have another liquidity crisis. The value of the toxic waste will again go to the floor and, again, the banks will be undercapitalised. Is the government going to put even more taxpayers’ money again to prop up the system? As explained in "The largest heist in history" since the notional value of toxic waste goes into quadrillions of dollars, there could be no end to this cycle. If the government puts even more cash, the story will repeat again.

6. The banks' public relations machine seems to have started preparing the government and the public for a such scenario by talking about possible ”double-dip recession” (the second dip, i.e. another liquidity crunch, is coming…), possibly developing to ”multiple-dip recession” scenario.

7. The offshore institutions that got the cash will hold to it. In a squeezed market, short of cash, they will be able to start cherry-picking the assets at a knockdown price.

(You are invited to study "Exercise/example – how does it work?" to understand the basic mechanics of this process.)

The author of this blog does not have sufficient first-hand information to prove that such a scenario is unfolding now. But the circumstantial evidence is overwhelming that it actually does. However the government does have tools at its disposal to examine the current situation regarding the banks’ profits and their source. They must assure the public that such a scenario is not happening and provide evidence that it is impossible. The government cannot risk, again, an injection of billions, if not trillions of pounds, or, in the alternative, a collapse of the financial system.

Even if a drastic version of this scenario does not happen (like another deep credit crunch), the government must assure the public that even a milder, still parasitical, version of the practice outlined above is not in operation by the financial institutions, i.e. a "slow" and seemingly "painless" draining of the economy, drip by drip, technically sustainable but still a continuation of the largest heist in history.

(Incidentally, the comments above also apply to some governments other than the UK’s.)