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Guest Post: Financialization = Inequality
Submitted by Charles Hugh-Smith of OfTwoMinds blog,
Financialization is the disease eating away the heart of the economy and what's left of democracy.
There are a number of factors behind the widening canyon of economic inequality, but the primary driver is financialization. Financialization has given those with capital and access to financier expertise ways to skim great wealth from the system without creating any value whatsoever.
Those with a home that is owned free and clear and $500,000+ in a 401K or retirement account have more capital than the vast majority of Americans, but members of the upper-middle class have no access to the leverage and tools of financialization.
In other words, financialization isn't a consequence of having capital: it's the consequence of having access to unlimited credit, leverage and low-risk, low-tax skimming operations (for example, tax codes enable hedge funds to declare income as low-tax long-term capital gains).
From the financier point of view, the upper-middle class tax donkeys who keep all their investment capital in mutual funds are the marks who supply liquidity to the system. The wealthy who park money in hedge funds are marks of a higher order, as their cash enables fund managers to gamble with other people's money and then return a thin slice of the gains (if any, after fees) back to the investors.
A carry trade is a classic skimming operation. The term is based on the difference between the costs of holding (carrying) one position and the gains earned by investing the proceeds elsewhere.
A typical example has been borrowing money for near-zero interest in Japan (yen) and using the proceeds to buy higher yielding Treasury bonds in the U.S. Here is Dan Norcini's description:
To define this term, "carry trade", for those who are a bit newer to the markets, it consists of borrowing large amounts of Yen for extremely low costs due to the miniscule short term interest rate in that nation, and taking those proceeds, exchanging it into different currencies and then using that money to make investments elsewhere where higher yields may be obtained. If that is not risky enough, most of these hedge funds then leverage their speculative bets in the hopes of compounding their gains.
There is a risk to currency carry trades: if the currency you borrow appreciates, then the trade blows up as the exchange rate loss exceeds your interest rate gain. The yen carry trade expanded to an estimated $1 trillion because the dollar/yen exchange rates were relatively stable.
The sweetest carry trades occur when two currencies are officially pegged but there is a big difference in interest rates between the two currencies. The lack of volatility in the exchange rate lowers the risk of this trade to near-zero--until the peg blows up.
You Don’t Really Understand the Carry Trade, Do You? (Yahoo Finance)
Would you like to leverage a carry trade 10 to 1? Hmm, who will loan you $1,000,000 based on $100,000 collateral? That's a key feature of financialization: the real power--leverage and access to global markets--is not available to you. The skimming operations are only open to the financier class.
Leveraging phantom collateral is another feature of financialization. Commoners were allowed a taste of this when subprime lenders were offering no-document, no-down payment mortgages back in 2004-2007. Phantom income was posted as collateral for the nothing-but-leverage loan.
The same sort of trade appears to be occurring in China, where a warehouse of copper is pledged as collateral for a legitimate bank loan at a rate of 4.5%. The proceeds are then loaned out at 10% (or higher) in the shadow banking sector of informal, unregulated credit.
What's to keep several people from pledging the same warehouse of copper? Nothing.
The carry trade blows up when the shadow-banking borrower defaults. Globally, the shadow banking system has ballooned to almost unimaginable proportions as financiers have sought out skimming operations:
Leverage and high-finance skim operations do not require much capital. It takes essentially no capital to originate a derivative; just craft the thing to protect your interests and sell it to some money manager as a valuable hedge.
If you have the right position and tools, it doesn't even require collateral to access gargantuan trading lines of credit.
The point is financialization is about leverage and skimming the existing system for immense profits. It's not about hedging legitimate industries' risks or investing in productive enterprises; it's all about skimming wealth while providing no value to the real economy or society.
The hidden toxin in financialization is the resulting concentration of wealth can buy concentrations of political power. Financialization is thus self-perpetuating: once the skimming operations generate billions of dollars in profit, it only takes a relatively small piece of these profits to buy/influence the political class. Once the politicos are in your pocket, the regulators and judiciary fall into line or are marginalized by new statutes or gutted budgets.
When Congress dared to question hedge funds' primary tax break (declaring income as long-term capital gains), the industry went apoplectic and declared capitalism, Mom and apple pie were all at grave risk if their skimming operations were taxed at the same rate you and I pay on our income.
Financialization is the disease eating away the heart of the economy and what's left of democracy.
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Financialization is another name for robbery.
Financialization is a racket ... (too) ...
"It's a small club, and you are not in it." George Carlin
Core driver here is greed.
Maor at the expense of anyone else.
Banks foreclosed relentlessly in every financial panic, especially after the crime of 1873.
First farmland, later businesses, now homes.....the pattern is clear.
They'll be coming for your firstborn next.
ori
The core driver here is the paper money system that can be expanded at the limitless fantasies of government and bankers..http://tinyurl.com/mem7o7x
Good points all, but you gotta’ be careful with the “equality” thing.. “Liberty, Equality Fraternity” sounds nice buts leads to a guillotine.
“Justice” is the issue to concentrate upon.
.. but then that leads you into the non-logical positivist realm of ethics and right-minded thinking .
names and addresses of bankers and hedgefund managers please---- I'm assure you the information will be safe from unathorised users and you have my guarantee on that.
Greed is a red herring.
Self interest + power = corruption. Greed isn't a necessary condition in the equation at all.
Self interest is a reality of the human condition. Power can be removed.
They already sold your firstborn. At least the IRS is giving bonuses and wall street profits are up....hooray.
given the pain, I thought the club was rather large
Wealth inequality, even worse than income inequality...
But I disagree its about greed. Its about control.
Financialization is another name for neo-feudalism, rentier capitalism, or state corporatism. So, yes, robbery.
This is what happens when free markets die and are replaced by tbtf fascists.
+ a big one, great comment
This article is nice take on how big players can make "pay to play" to their great benefit at little cost. This shows yet another way the 0.1% gain at the expense of the rest of us. An excellent article Tylers!
That shadow bank chart kind of looks like the head of an axe.
Forging the weapon of their own demise?
One can hope.
IR swaps.
The end.
The financial 'industry' is nothing of the kind. They produce nothing yet skim all the cream off the top for themselves from every real, productive activity. They make working and producing seem foolish and should be called on it.
Think you could have aimed higher and shot Fractional Reserve Banking.
pods
it's a chicken and egg problem as the empire degrades. It degrades because of these sophisticated crimes and it becomes dependent on them to keep pretending
Wonder where that quadrillion in derivatives comes from? Its your assets that are beeing hypothocated. Big money doesn't bet its own wealth it legally uses yours.
Yes, kind of makes you mad, no?
Ex., savings/checking deposit sweeps. Guess what the collateral is for those IR swaps that are presently blowing up?
One aspect of financialization had unintended consequences, because of the leverage it allowed in a backhanded form of regulatory capture: The rise of CDOs and structured finance. In their simplest form, a CDO is functionally equivalent to a closed-end fund holding a array of cash generating assets. By definition it reduces risk by diversification. However, like any reasonable idea, Wall St. took it and morphed it into a process that perverted the very reason for doing it.
1) It allowd pulling unsustainable demand forward. Insanity to any one not in the MOAR GROWTH camp, which unfortunately includes essentially all congress critters and economists.
2) The idea of buying CDS on a structured product as a means of insurance is lunacy. You cannot insure what it uninsurable. The assumptions were horibly flawed.
3) The phenomenon of CDO2 was the kicker, very few people really understood what was going on. The real operators gamed the system through these instruments. How do I know? I was modelling them in 2005-2008...
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Financialization has occured in the past, it happens when it is easy for the rentier class to make a profit through passive investments than it is by taking entrepenurial risk. Finanicialization has also heralded the downfall of a number of trading empires, Kevin Phillips has written extensively on this...
financialization = looting
Private Equity were the looters extraordinaire....Bain Capital, aka Mitt and the Boyz, are a great example...
There is a very good reason that they are referred to as Pirate Equity. I can assure you that it isn't because there are lot of gay guys runnning the show...
Bernanke and the Fed members have made more and larger financial locust.
Stripping the remaining wealth of the lower 90%.
It's all modeled and former quant from DE Shaw let's it roll, along with some good Larry Summers insights as a bonus. It's all about the models that lie, modeling for inequality.
http://ducknetweb.blogspot.com/2013/04/modeling-for-inequality-with.html
I wrote a while back that data used out of context stands to be the biggest attack on consumers that we have ever seen and we digital illits in Congress that don't get this and just pad their own pockets. Good deal for them but not for us for sure as they can remain bliss and get rich.
http://ducknetweb.blogspot.com/2012/11/big-dataanalytics-if-used-out-of....
Completely correct. Just imagine what would happen if the government supplied everyone a guarantee that they could only win at the casino- all losses covered by printing money, all winnings belong to the citizen. The economy would grind to a halt within weeks as everyone and their brother gave up production for the fun of winning at Harrah's, only to discover that the winnings eventually buy nothing because nothing is being produced. Financialization is just basically the same thing, but with the guarantees limited to a selected few, and the rest of the population endeavors, one by one, to enter that select elite, by hook or by crook.
the banks should have been allowed to collaspe and we would have had a better recovery as the rot would be gone. instead they have been given $10 Trillion to do an even worse job. bubble 2.0 will be a bad one.
Well here is a bit of cheery news...although too little and too late.
http://dealbook.nytimes.com/2013/06/24/u-s-civil-charges-against-corzine...
This article states the obvious but offers no solutions, just like Congress.
You could have made the basic argument about financialization being a skimming operation since it was first conceived in the mind of mankind. The more contemporary and more heinous development is the extent to which it has proliferated and penetrated every significant commercial activity in almost every possible way (see carbon credits), and the extent to which financiers now use it to manipulate real physical economic activity to increase the yield from their skimming games. Those methods are now more complex too, beyond the comprehension of most citizens including elected officials and regulators. The greatest example of that remains what the Fed has done without any significant challenge to manipulate interest rates in the last five years.
The Church used to protect Christendom against the tribe of money changing userers. But then we got Enlightenment and were enriched by vibrant diversity.
Ok. Now that we have clarified it for the umpteenth time, can we please proceed to the next level???
What can we do against it???
For goodness' sake! Is there really nobody out there, who wants to take real action against banksters/corruption ...you name the rest???
well I think a start would be to compile a list of particulars with names and address of the perps --of course this information would have to be leaked. I'm sure with the guarantee that this information would never be abused it should be forth coming in the near future--in fact I will give my personal word that if this information was posted, for example on ZH, it will not be used in any way---this is purely for information only and is an educational exercise. just saying--
there's another driver at work besides greed - the imperative that debt grow exponentially forever for the monetary system to sustain itself. That is a bigger deal than greed I think.