Shadow Banking System Continues to Threaten the Real One

Editor’s Note: Simply explained, the shadow banking system arises when private companies issue money. That is what Wall Street has been doing since 1983 when the credit derivative market was zero. Now it is $600 trillion, which is 12 times the size of the real banking system. It’s easy to see how they control things. On paper they have more than the governments do. But it is only on paper and if government would do what it SHOULD do, the entire house of cards would fold. And far from the crash that everyone expects (or threatens), the result would be merely a few bankers on Wall Street whining about their bonuses. BECAUSE IT WASN’T REAL IN THE FIRST PLACE.

October 25, 2010, 7:30 pm FLOYD NORRIS

Return of the Shadow

Vikram Pandit, the chief executive of Citigroup, sounded a timely warning today at a New York conference sponsored by The Economist magazine.

He said the changes made so far to the banking system could stimulate the creation of a new shadow  system.

Institutionally, Basel reinforces incentives for the development of another shadow banking system. The old one was severely hurt by the crisis and won’t recover to precrisis levels. But a new one could arise as capital flees the formal banking system looking for less or unregulated sectors.

Any time the amount of capital required by regulation exceeds the levels judged necessary by the market, opportunities for arbitrage arise. It probably won’t be mortgage brokers who fuel the next bubble. But some unregulated financial niche will arise, posing similar — or greater — dangers.

Remember, the banking system is not synonymous with the financial system as a whole — and Basel only affects the former. Shifting risk into unregulated or differently regulated sectors won’t make the banking system safer. On the contrary, overall risk in the system could actually rise.

Put simply, the new rules don’t create a wide enough net.

The Dodd-Frank law does give regulators authority to oversee the next A.I.G. — a huge financial institution that is systemically important even if it is not fully in the conventional regulatory system. But Congress rejected proposals to let regulators go after shadow sectors — ones that are taking over areas of business previously done by the regulated system.

That will be important, at some point, as Mr. Pandit said in response to a question:

The shadow banking system can determine pricing on the margin.

To some extent, of course, Mr. Pandit is talking his book. But an important fact of the growth of the previous shadow banking system is the way that the regulated system came to take part in it.  The banks felt they had to compete, and so did their regulators.  They claimed to have gotten rid of the risks, and so kept them off their balance sheets. That claim turned out to be false, and so the bailout was necessary.

So what should regulators do? They should watch the banks carefully, to see if they are being forced to compete with unregulated institutions. If so, the regulators should be especially vigilant to assure that pricing is reasonable, given the required level of bank reserves. If not, the answer is for the banks to simply not compete, and let that market go to the unregulated firms. Then the regulators need to be sure that if it blows up, the costs will not flow back to the regulated banking system.

8 Responses

  1. From my research, what it looks like is that these correspondent lenders were making color photocopies of a note and selling the same Note multiple times in different CDO’s.
    How else can one account for all the color photocopy counterfeits being submitted in the foreclosure process?
    It was a gigantic Ponzi scheme which fell apart when new investors in these counterfeits could no longer be found. The whole house of cards is collapsing in front of our eyes. This is what “securitization” led to.

  2. So, Saggy, are you saying I shouldn’t have given these guys MY address? yea gads…….

  3. Uhh…sorry Neil but private bankers have been running this country since 1913. The Federal Reserve is owned by a small private group of European bankers. There is absolutely nothing federal about it. It’s no more federal than Federal Express. The Federal Reserve is not our friend. When an illusive and secretive group of crooks manage to issue credit to a country and its people at interest rates that are abusive and mathematically impossibe to pay back, you don’t need a fancy degree to predict the effect. I recommend reading The Creature from Jekyll Island by G. Edward Griffin if anyone cares to know what the Federal Reserve is and how it affects us all.

  4. 12 times the money supply??!! Unpayable! Moral Hazard from h—.

    Cancel & Liquidate the entire shadow banking system for fraud & nullity.

    While we are on the subject: My 1,500′ sq. ft. home went from $5,000 in 1940 to $130,000 in 2003, from another shadow banking system, the private “Federal Reserve”.

    The Federal Reserve’s inflationary ‘note’ system has taken an estimated average of 5% compounded annually out of the currency’s value since then. Hence, a fiat ‘dollar note’ in 1913 is worth about 2 cents today; stealing from 100’s of our savers and producers since then. (Unlike the same silver dollar minted then).

    The same happened after the revolutionary war, when the popular phrase “Not worth a Continental” (dollar) became vogue.

    Fiat money printed by anyone, particularly governmentally protected monopolies of any sort always leads first to favoritism, then devaluation and ruin.

    Study the 100’s of fiat money systems of the world. Every one of these fiat systems steals wealth, and leads to an overly-vulnerable people dependent on the lies of each fiat backers truthfulness.

    Don’t bury a modern ‘dollar’. It won’t be worth anything when you dig it back up in an emergency; neither will any other fiat currency.

    Guess that’s why our American Constitution says “No state shall … make anything but gold and silver coin a tender in payment of debt”.

    Silver and gold is good anywhere, in any country, anytime, in any era.

    We should start using and thinking in new terms of value: “One Ounce Silver” and “One Ounce Gold” to determine the value of anything, including homes and cars.

    My home is worth ‘75 ounces gold’ …. or ….6,200 ‘ounces silver’, right now.

    “Ounce- _______” is the wave of the dependable future. The printed ‘dollar’ (and other fiat frauds) are all but collapsed.

    Your 12 times the governmental money supply, shows the frauds, and the reasons our hyper-inflated mortgages amounts are so huge and unaffordable.

    Again, cancel & liquidate every shadow banking system for fraud & nullity

    ….. and their phony, over-leveraged, decoupled mortgages on our homes and lives!

    Return to American freedom and solidity.


    Investigators find negligence, fraud in foreclosure fiasco.

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    “Robo-signing” represents “just the tip of the iceberg” CNNmoney reports, adding investigators have “uncovered a morass of serious paperwork problems.”

    In the last three weeks, revelations about forged and rubber-stamped documents triggered inquiry into more than 125,000 sets of foreclosure papers filed by three of America’s largest mortgage lenders—Bank of America, J.P. Morgan Chase, and Ally Financial., formerly GMAC mortgage. But runaway pens and flying rubber stamps may be the least of bank officials’ worries as bank regulators and law enforcement officers look deeper into the latest developments in the foreclosure fiasco. As investigators plow through box after box of foreclosure documents rushed through the legal systems in all fifty states, they continue to find evidence of gross negligence, abuse, and fraud. According to the latest reports, several attorneys general are looking at felony charges against banking officials and their attorneys.

    Florida investigators have found compelling evidence that senior lawyers at the firm of David J. Sterns prepared and signed fraudulent foreclosure document, receiving lavish gifts and rewards from the companies they represented. Florida Attorney General Bill McCollum released a deposition in which the witness testified Sterns attorneys signed as many as 1000 foreclosure files per day, receiving vacations, expensive jewelry, and BMW automobiles in exchange for their so-called “hard work.”

    Who owns “the note”?
    The most serious criminal charges will arise from questions about “the notes” in at least 60,000 foreclosure files. The note is the simplest and by far the most important document in a mortgage package, because it pledges the property as collateral for the mortgage, and it authorizes the note-holder to take possession of the property in the event of default. In these sixty-thousand or more cases, the original note either is missing or an affidavit of its digitized existence substitutes for it. In the twenty-three states where investigators are subjecting foreclosure files to the most intense scrutiny, judges have pledged they will not approve eviction notices unless documents include the original note.


    The Wall Street Journal Again Opines – And Lies

    Once again we see the Mainstream Media try to spin Foreclosuregate:

    Funny how many media accounts begin with that rarest of creatures, a homeowner fully paid up on his mortgage, or better yet a Florida man who paid cash for his house, and who was foreclosed on anyway thanks to a paperwork error by some confused bank. This poor shmuck then is made to symbolize the larger phenomenon when in fact the larger phenomenon is precisely the opposite.

    Funny how The Journal, and you, completely ignore why all these “robo” things are going on. Why the documents seem to have magically disappeared – and why an industry that has a thousand year history of studiously keeping its books of account can’t produce the essence of the contract – the paper bearing the borrower’s signature.

    We hasten to add that technicalities are important; the rule of law is nothing but a profound commitment to honor technicalities. But let’s understand that in the absence of the snafu, we’d have a faster, smoother-working foreclosure process, in which more Americans would more quickly be shoved out into the street in perfect compliance with the law.

    Well, no, we wouldn’t. And that’s the problem – and the root of the lie.

    See, were the documents produced – in perfect accordance with the law – we’d have hundreds of thousands of challenges to the Truth in Lending statute. We’d have challenges to the implied covenant of good faith, since Citibank has admitted that it knew that by 2007 eighty percent of its loans were bad – a clear statement of knowing malfeasance.

    And we’d have all sorts of challenges by MBS holders, who would be arguing (successfully!) that the loans were never conveyed, they don’t own MBS, they were sold empty boxes and they’d be pounding the table demanding that the banks give them back their money.

    The white-hat, black-hat casting couch has become crowded with gray hats. The Obama administration has been trying to keep people in their homes by cutting their mortgages down to a size they could afford, but has succeeded in modifying relatively few, and then mostly for people so hard-up they defaulted anyway.

    That’s because the original contract was fraudulent in the inducement – and as Citibank has documented, the banks knew it.

    The Uniform Fraudulent Transfers Act makes these debts fraudulent in both directions – that is, it is fraudulent to obtain a loan where you know you cannot pay and it is fraudulent under the implied covenant of dealing in good faith for a creditor to give you credit they know you cannot service.

    That is, any loan in which someone was qualified on the teaser rate, and for which the bank cannot show a reasonable expectation of how the consumer would be able to service the loan once the teaser had expired, can be ruled void as having been entered into in bad faith by the lender.

    Politicians have been frequent floggers of the bankers-as-villains, borrowers-as-victims story line. Yet the government has moved heaven and earth to prop up the self-same banks.

    Well yes, this stone is one properly cast. The government should have put all of these banks into receivership in 2007 and prosecuted their officers and directors for fraud. It still should – right now, right here, today.

    Every foreclosure is a different story, some painful to hear. But we had a housing bubble, and bubbles by definition occur because the incentives permit them to occur: The Fed kept interest rates low. Regulatory policy favored shoehorning more people into homes. Enormous tax inducements were dangled to encourage housing debt. Not outside the laws of human nature, an industry on the make—the subprime industry—emerged to exploit these conditions.

    You forgot one word: Fraud.

    And that’s the most important one.

    These mortgages weren’t made by people who were just greedy in the banking industry. Oh yes, they were greedy. So were homeowners. But the law imposes an implied covenant of fair dealing on the institutions as well as on the borrowers, and as Citibank and Clayton have documented under oath there’s a damn good case to be made that this covenant was breached in 80% of the loans being made by 2007.

    When you screw 8 out of 10 people – knowingly and intentionally – any honest assessment of what went on must include the “F-bomb” – and any honest and fair law enforcement component of a government is forced to conclude that we need thousands of pairs of handcuffs for the guilty parties.

    But holding Wall Street to account for Wall Street’s intentional looting of the citizens would leave you with a paper that didn’t have any remaining delivery addresses, wouldn’t it?

    So instead of honest reporting and honest opinions, we have America’s Paper of Record when it comes to the capital markets instead attempting to blow more smoke over the landscape in a vain (and futile) attempt to cover up the truth: Wall Street ripped off the public and effectively bribed and extorted Congress in order to avoid being held to account.

    Until this changes and the people responsible are held to account our economy cannot – and will not – recover.


    On Monetary Idiocy and Treason, Chris Whalen

    This is a must-read:

    Despite examples of the success of restructuring with F and even General Motors, the invidious cowards who inhabit Washington are unwilling to restructure the largest banks and GSEs. The reluctance comes partly from what truths restructuring will reveal.

    Indeed. Were we to actually open the box and have a look inside, we would find chocolate-covered dog turds. Lots of them. We would discover that they were intentionally brokered and sold to investors worldwide, and that just like Citibank, the GSEs knew by 2006 that huge percentages of the production through the entire financial system was fraudulent.

    The sad part is that the truth is now actually out there in the record, under oath, in the form of testimony before the FCIC. Pretending at this point is a waste of time and effort – there is nothing that can be done to avoid reality showing up. Obama and friends are now fighting a rear-guard action, and the inevitable flanking attack is going to come. When it does, the pretense will vanish in a puff of smoke.

    As a result, these same large zombie banks and the U.S. economy will continue to shrink under the weight of bad debt, public and private. Remember that the Dodd-Frank legislation was not so much about financial reform as protecting the housing GSEs.


    Because President Barack Obama and the leaders of both political parties are unwilling to address the housing crisis and the wasting effects on the largest banks, there will be no growth and no net job creation in the U.S. for the next several years. And because the Obama White House is content to ignore the crisis facing millions of American homeowners, who are deep underwater and will eventually default on their loans, the efforts by the Fed to reflate the U.S. economy and particularly consumer spending will be futile. As Alan Meltzer noted to Tom Keene on Bloomberg Radio earlier this year: “This is not a monetary problem.”

    Barack Obama, just as with John McCain and both political parties, do not give a damn about the American public. They do not care about the massive frauds perpetrated on them. They could care less, so long as their banking cronies get bailed out and can continue to pretend they have “good assets”, even though what they really have on their balance sheets is rotting fish. The underlying fraud in these “products” is being ignored because to do otherwise would be to admit that the banking system committed millions of chargeable felonies – and that would require that each and every one of these firms be shut down and their executives imprisoned.

    Forget Treasury Secretary Tim Geithner lying about the relatively small losses at American International Group (AIG), the fraud and obfuscation now underway in Washinton to protect the TBTF banks and GSEs totals into the trillions of dollars and rises to the level of treason. And the sad part is that all of the temporizing and excuses by the Fed and the White House will be for naught. The zombie banks and GSEs alike will muddle along until the operational cost of servicing bad loans engulfs them. Then they will be bailed out — again — or restructured.

    But who will charge Treason? Nobody. The people are watching Bristol Palin on Dancing with the Stars and NFL Monday Night.

    It’s truly amazing to watch someone get financially ****d on a daily basis and then argue over whether we should have prayer in the schools. The last time I checked, if you’re homeless and penniless, all these other political issues are rather immaterial to your life.

    Idiocracy has nothing on the average American. We simply don’t want to sit down with a pencil and paper and figure this stuff out. You can’t borrow your way to prosperity – all you do with borrowing is spend tomorrow’s earnings today. That’s it.

    But when tomorrow comes you already spent the money. Now you wind up having to do it again, or you must pull back. So you do it again. But that borrowing comes with an interest cost too, which means you always enjoy a lower standard of living over time by borrowing – always.

    But now the larger lenders are sinking under the weight of rising servicing costs, falling asset returns and other problems linked to mortgage securitizations. So while the Fed continues to try to revive the largest banks via massive monetary ease, the FOMC is at the same time preparing to do further damage to solvent lenders, insurers and other investors via QE2.

    The IRA has spoken to a number of executives in banks and life insurance companies about the impact of QE and Fed zero interest rate policy on their income statements and balance sheets. The universal message: If rates do not return to “normal” levels by year-end, the pain in terms of reduced earnings on assets and the resultant negative cash flow will start to become so apparent that the financial markets will actually notice. In particular, we have been told that by year end several of the largest publicly traded banks and life insurers could show significant declines in net interest earnings due to QE — declines driven by falling net interest income that may provoke ratings downgrades. And when this next systemic crisis comes — whether in December or later in 2011 — the full blame will belong to the members of the Bernanke Fed and the Obama Administration.

    That’s a polite way of saying that insurance companies and pension funds are going to start getting screwed in ways they can no longer hide.

    This has been part of my message since Bernanke started with his “easing” – “easy money” always screws the saver. And while people chortle that the money “forced into the market” helps GDP (because it is spent) and thus will allegedly pump the stock market it is inherently damaging to pension funds and insurance companies, because those institutions rely on the ability to grow money via safe interest payments to meet their obligations – and those obligations are to YOU.

    Thus the pump in the market is short term, and is eventually followed by the realization that these institutions cannot pay out what was promised. When that realization comes to the fore the collapse in valuations is immense, simply as reversion to reality.

    There’s more in here, and you should read it. In particular, the issue of mortgage insurers – you know, the old monolines that have been on a tear in the market of late? Yeah, those guys. The guys who apparently, if IRA is correct, are not paying claims even though the GSEs force you to buy their product if you’re not putting 20% down. Instead of simply refusing to write business with less than 20% down, they’re instead funneling your money to keep the artifice afloat, even though claims aren’t being paid out – and it is a near-certainty you, in fact, are buying nothing.

    As Chris says:

    In each case the substance of the transaction is to falsify the financial statements of the participants. And in each case, the acts are arguably criminal fraud. And in the case of the zombie banks, the GSEs and the MIs, the fraud is being actively concealed by Congress, the White House and agencies of the U.S. government led by the Federal Reserve Board. Is this not tyranny?

    Of course it is.

    But heh, Dancing With The Stars is on, even if we’re all broke in America.

    So instead of doing what we should – demanding of politicians that they take these organizations into receivership and their executives into custody, we instead will go searching for another stick for our teeth – because we bit through the last one yesterday.

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