Swaps, Banks, and Litigation Arbitrage

The Bernank is beginning to wind down his "non-bailout" of Europe.  On 12/14/2011 the Chairsatan himself reportedly told Senator Corker that he had no intentions of furthering the US's involvement in the European Crisis. Coincidently a few weeks later CNBC interviewed Gerald O'Driscoll, who is a previous Dallas Fed Vice President, after he released an Op-ed in the WSJ calling out the FED's European bailout.  O'Driscoll is dead on with his claims about Bernanke bailing out Europe and his suspicions about Bernanke's reasoning behind going through the FED market arm to lend USD to the ECB.


One thing O'Driscoll touches upon is Bernanke's "legal" reasoning.  I covered this previously and will readdress it here because its critical to understand.  Months ago Zerohedge identified three key terms that would be discussed among "fringe financial blogs":



Bernanke's "legal" reasons lie within the legal pages of sovereign nation courts and what Zerohedge pointed out before everyone else, the critically important "litigation arbitrage".  Within this phrase are disputes between nations about the standing of the relationship of their governments and the nation's central bank also stated as whether a central bank is its own private entity or an "alter ego" of its sovereign nation (I've already covered this in detail here).  That's where profit on this level is made.  If a central bank interacts with the FRBNY FX Liquidity Swap Operations and it is for activities deemed to be public actions, not private profit actions, then the central bank is immune from default laws in the United States.  Consider a previous FRBNY legal case involving two hedge funds and the Argentine central bank.

An IMF paper (embedded below the post) identifies "litagation arbitrage":


And that's just the tip of the primary reason why this facility is so important. 

According to the FRBNY:

  • these swap facilities (to) respond to the re-emergence of strains in short term funding markets in Europe“. 
  • designed to improve liquidity conditions in global money markets and to minimize the risk that strains abroad could spread to U.S. markets, by providing foreign central banks with the capacity to deliver U.S. dollar funding to institutions in their jurisdiction“.


A breakdown of all the participants:


Couple the following the chart with the action we've seen in the previous two.  The ECB Deposit Facility has dwindled after Europe was able to suppress the original front of this crisis by injection EUR1 trillion of three-year loans in 2011 and early 2012.  Levels of overnight deposits at this standing facility have fallen over the past 4 months.


Clearly Bernanke bailout Europe and either 1) lied to Senator Corker or 2) Corker lied to the American people.  I'd bet on number two. IMF Working Paper_Sovereign Chapt 11 Default Working Paper