For the first time in a long time it looks like the economy may be the top issue in this election. With big price increases in food and fuel, house and condo prices dropping, unemployment edging up and incomes stagnant (except for public service executives) more and more Canadian voters are looking for answers and comfort in times of increasing economic uncertainty.
The looming problem for the Harper government was that the gusher of money...
For the first time in a long time it looks like the economy may be the top issue in this election. With big price increases in food and fuel, house and condo prices dropping, unemployment edging up and incomes stagnant (except for public service executives) more and more Canadian voters are looking for answers and comfort in times of increasing economic uncertainty.
The looming problem for the Harper government was that the gusher of money from exports of high-priced resources tapered off as oil, grains and other products dropped in value by late in the summer. Yet many Canadians continued to feel the lingering impact of food and fuel inflation.
Now how could the global economy rival the Great Depression? In a nutshell, this is what the U.S. Treasury Department, U.S. Federal Reserve, and SEC tried to avoid by bailing out Bear Stearns, AIG, and is now proposing a $700 billion bailout package. Their biggest fear, is the unregulated Credit Default Swap market that has the potential to cause another Great Depression and they are using all their ammo to prevent the “worse case scenario” from happening.
In a nutshell, a Credit Default Swap (CDS) is insurance against a bond or loan. Let’s say you are holding a bond from company XYZ. You are worried about XYZ going bankrupt, and defaulting on its bond payments. Thus, you go to a company, such as AIG, and purchase insurance for the bond, in case that XYZ defaults on its payments - in other words, you’ve obtained a Credit Default Swap from AIG.
Now here is where the problem for Credit Default Swaps has ballooned. Because Credit Default Swaps aren’t regulated, companies like AIG don’t have to back them up with collateral. During the “good times,” this was the perfect way for AIG to make money because they could sell a bunch of Credit Default Swaps, knowing that company XYZ would never go bankrupt. Thus, AIG would continue to collect premiums from you and things are hunky dory. As you can guess, everything goes to h*ll when XYZ indeed goes bankrupt, and now, AIG doesn’t have the collateral to pay your insurance. From your end, not only can you not collect from the XYZ bond because they went bankrupt, you can’t collect the insurance from AIG either because they never had the collateral to back up the Credit Default Swap in the first place. Thus, you may go bankrupt as well!
To add to this, Credit Default Swaps were offered on mortgage backed securities, CDOs, and other mortgage backed debt. That’s great during the housing boom when everybody is making their mortgage payments, but when there is a housing downturn …
To put in perspective of the sh*t hole the financial system is in, the “total outstanding balance of the CDS market is $50 trillion, compared with the entire U.S. home mortgage market at about $11 trillion.”:
http://www.moneymorning.com/20...
Because Credit Default Swaps aren’t regulated, financial institutions worldwide have gone and ballooned the CDS market with little or no collateral. As you can guess, if companies like Bear Stearns and AIG, who offered CDS, go bankrupt, it will have a huge domino effect on the remaining financial institutions (AIG had issues paying off its CDS, it tried to collect collateral, rating agencies lowered AIG’s debt rating because of that, and AIG had to obtain more collateral, etc).
And this is the worst case scenario that the U.S. Treasury Department, Federal Reserve, and SEC are trying to avoid.
As for Canadian banks? Unfortunately, they are also exposed to Credit Default Swaps:
“Canadian banks have more than $800-billion in exposure to one of the most closely watched segments of this market — credit default swaps. It is estimated that Royal Bank of Canada has the biggest position — with about $300-billion of notional exposures to this market, an amount many times greater than the entire value of Canada’s largest bank.
Its peers are thought to be similarly positioned, with Toronto-Dominion Bank’s at $197-billion, Bank of Montreal at $118-billion, Bank of Nova Scotia at $110-billion and CIBC at $86-billion.
The banks said yesterday they would not disclose who their counter-parties were on these positions, but with AIG controlling about US$441-billion of this market through its financial products division, analysts said its demise would be laden with material risks.”
http://www.financialpost.com/n...
Hopefully, this doesn’t happen. As I said before, if Vancouver real estate declined 50% but we get out of this financial mess, that is really a best case scenario. Lets hope that the $700 billion bailout by the U.S. works and the CDS crisis doesn’t get any worse.
http://vancouvercondo.info/200...
