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What is the 'Shadow Financial System'?
by mtippett | March 19, 2008 at 08:29 am | 383 views | 6 comments
by wallyg
You're soaking in it...
Since the onset of the liquidity and credit crunch last summer this column has been arguing that monetary policy would be impotent to address such a crunch because, in part, of the existence of a non-bank “shadow financial system”. This system is composed of conduits, SIVs, investment banks/broker dealers, money market funds, hedge funds and other non bank financial institutions.
All these institutions look similar to banks because they are highly leveraged and borrow short and in liquid ways and invest or lend long and in illiquid ways. This shadow financial system is, like banks, subject not only to credit and market risk but also to rollover or liquidity risk, i.e. the risk deriving from having a large stock of short term liabilities (relative to liquid assets) that may not roll over if creditors decide to withdraw their credits to these institutions.
Unlike banks this shadow financial system does not have access to the lender of last resort support of the central bank as these are not depository institutions regulated by the central banks. What we are now observing – with the case of Bear Stearns and the recent disaster among SIVs, conduits, run on a number of hedge funds and money market funds is a generalized liquidity run on this shadow financial system.
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March 19, 2008 at 08:29 am by mtippett, 383 views, 6 comments
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Comments (6)
at 10:03 on March 19th, 2008
at 11:05 on March 19th, 2008
mtippett, I like this story. It's good stuff. everybody can understand now...
at 11:17 on March 19th, 2008
Hi Guys, Ben Bernanke gave a speech a few days ago in which he covered this same material - but he used completely different terminology. No doubt new rules are in the pipeline. --Sam.
at 12:48 on March 19th, 2008
Like it or not the Fed cannot just institute 'new rules' without global agreement, and it is the Fed that created the unregulated free-for all that got the economy where it is. Trusting in the Fed is the modern equivalent of trusting in a travelling snake-oil saleman! They are, after all, the bunch who ripped you off and made their buddies rich.
Regulations are what is needed but will not cure the ills that plague the economy now. It's far too late. The light at the end of the tunnel is really a train and we're all on the tracks. Maybe once the economy has flushed itself down the toilet there will be enough left to start again and regulate properly. That is not, however, in keeping with neo-liberal laissez-faire American capitalism.
The only long term solutions are disband the Fed, fire and prosecute the whole crew of thieves for the massive fraud they have perpetrated, put the responsibility for printing currency back where it belongs, in the hands of government, and re-tool or completely get rid of the capitalist "growth is health" consumer oriented system.
at 13:13 on March 19th, 2008
Hi Moonwolf,
As a small business person I'm inclined to agree with a small part of what you're saying. The part about throwing out the whole system and starting from scratch also has a small attraction (I remember fondly a review of something called, if memory serves, "the minimum income" or something like that - seemed to make lots of sense way back when.)
But that's not normally the way I live my life. From time to time I review what's going on - what do I need to keep doing and what do I need to stop doing. Then I make adjustments.
Since we're talking about it I guess now is a good time for me to vent a little, too: It's outrageous that the wall street gang distributed 30 or 40 billion in bonus payments over the past few months while they knew that the days of fast and easy house-flipping were coming to an end.
Still, I'd rather fix things incrementally.
Like it or not, our leaders are currently our leaders. We can boot them out from time to time but we need to work with them as much as possible for now. Spreading fear is not helping.
Bernanke discussed, in his recent speech, some of the contractual issues revolving around his suggestion that lenders write down mortgage principal instead of writing off blocks of investment. I'm sure they're working on it as it's in the interest of all parties (national and international.)
Here's some good news: The media has successfully predicted all thirty eight of the last two recessions! Let's face it: The odds are on their side! Perhaps all the fear mongering will turn out to be justified this time around - but let's see if things start to clear-up in the third quarter (or not) before we decide.
--Sam.
p.s. We certainly are in a big mess.
at 13:29 on March 19th, 2008
Observation: Everybody talks about the curse of laissez-faire capitalism and demands action. After that: any and every intervention is attacked.
A buddy of mine made millions flipping houses for a few years - but he cashed-out two years ago because he saw that prices were getting silly. At one point I met people who had started to cash out of the housing markets early in 2005. Lots of ordinary people have made money - lots of money - over the past (10 or 15 years?) of rising house prices.
Do we really have a good idea of who's been good and who's been bad here? If we do, let's do the necessary research and come up with a list of specific criminals and their specific crimes.
It seems to me that the bankers of today were fresh out of college when this housing bubble started. They got used to it and learned to make big bucks helping people flip houses. I wouldn't be surprised if they spend the rest of their lives trying to repeat the habit they've gotten into.
--Sam.