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the creditors tried to get their money back. The CDOs were put up for
sale, and there were no takers at anywhere near the stated valuations.
Mark Gilbert, writing on Bloomberg.com, observed:
The efforts by Bear Stearns™s creditors to extricate themselves
from their investments have laid bare one of the derivatives
market™s dirty little secrets -- prices are mostly generated by a
confidence trick. As long as all of the participants keep a straight
face when agreeing on a particular value for a security, that™s
the price. As soon as someone starts giggling, however, the jig is
up, and the bookkeepers might have to confess to a new, lower
The secret of the Wall Street wizards was out: the derivatives game
was a confidence trick, and when confidence was lost, the trick no
longer worked. The $681 trillion derivatives bubble was an illusion.
Panic spread around the world, as increasing numbers of investment
banks had to prevent “runs” on their hedge funds by refusing
withdrawals from nervous customers who had bet the farm on this
illusory scheme. Between July and August 2007, the Dow Jones
Industrial Average plunged a thousand points, prompting
commentators to warn of a 1929-style crash. When the “liquidity
crisis” became too big for the investment banks to handle, the central
banks stepped in; but in this case the “crisis” wasn™t actually the result
of a lack of money in the system. The newly-created money lent to
subprime borrowers was still circulating in the economy; the borrowers
just weren™t paying it back to the banks. Investors still had money to
invest; they just weren™t using it to buy “triple-A” asset-backed
securities that had toxic subprime mortgages embedded in them. The
“faith-based” money system of the banks was frozen into illiquidity
because no one was buying it anymore.
The solution of the U.S. Federal Reserve, along with the central
banks of Europe, Canada, Australia and Japan, was to conjure up
$315 billion in “credit” and extend it to troubled banks and investment
firms. The rescued institutions included Countrywide Financial, the
largest U.S. mortgage lender. Countrywide was being called the next
Enron, not only because it was facing bankruptcy but because it was
guilty of some quite shady practices. It underwrote and sold hundreds
of thousands of mortgages containing false and misleading
information, which were then sold to the international banking and
investment markets as securities. The lack of liquidity in the markets
was blamed directly on the corrupt practices at Countrywide and other

Web of Debt

lenders of its ilk. According to one analyst, “Entire nations are now at
risk of their economies collapsing because of this fraud.”2 But that did
not deter the U.S. central bank from sending in a lifeboat. Countrywide
was saved from insolvency when Bank of America bought $2 billion
of Countrywide stock with a loan made available by the Fed at newly-
reduced interest rates. Bank of America also got a windfall out of the
deal, since when investors learned that Countrywide was being
rescued, the stock it had just purchased with money borrowed from
the Fed shot up. The market hemorrhage was bandaged over, the
Dow turned around, and investors breathed a sigh of relief. All was
well again in Stepfordville, or so it seemed.

The Return of the Obsolete Bank Run

Just as the men behind the curtain appeared to have everything
under control in the United States, the global credit crisis hit in England.
In September 2007, Northern Rock, Britain™s fifth-largest mortgage
lender, was besieged at branches across the country, as thousands of
worried customers queued for hours in hopes of getting their money
out before the doors closed. It was called the worst bank run since the
1970s. Bank officials feared that as much as half the bank™s deposit
base could be withdrawn before the run was over. By September 14,
2007, Northern Rock™s share price had dropped 30 percent; and on
September 17 it dropped another 35 percent. There was talk of a
public takeover. “If the run on deposits looks out of control,” said one
official, “Northern Rock would effectively be nationalised and put into
administration so it could be wound down.”3
The bloodletting slowed after the government issued an emergency
pledge to Northern Rock™s worried savers that their money was safe,
but analysts said the credit crisis was here to stay. As BBC News
explained the problem: “Northern Rock has struggled since money
markets seized up over the summer. The bank is not short of assets,
but they are tied up in loans to home owners. Because of the global
credit crunch it has found it difficult to borrow the cash to run its day-
to-day operations.”4 The bank was “borrowing short to lend long,”
playing a shell game with its customers™ money.
While angry depositors were storming Northern Rock in England,
Countrywide Financial was again quietly being snatched from the
void in the United States, this time with $12 billion in new-found fi-
nancing. Financing found where? Peter Ralter wrote in


LeMetropoleCafe.com on September 16, 2007:
[W]hy is it that the $2 billion investment by Bank of America in
Countrywide was front page news in August while the
company™s new $12 billion financing is buried on the business
pages? Isn™t it funny, too, that Countrywide didn™t specify who
is providing all that money, saying only that it comes from “new
or existing credit lines.” There was no comment, either, on the
credit or interest terms “ this for $12 billion! It makes me suspect
that Countrywide™s new angel isn™t the B of A, but rather the B
of B; the Bank of Bernanke.5
But Countrywide™s downward slide continued -- until January
2008, when Bank of America agreed to buy it for $4.1 billion. Again
eyebrows were raised. Bank of America had just announced that it
was cleaning house and cutting 650 jobs. Was the deal another bail-
out with money funneled from the Fed and its Plunge Protection Team?
As John Hoefle noted in 2002, “Major financial crises are never an-
nounced in the newspapers but are instead treated as a form of na-
tional security secret, so that various bailouts and market-manipula-
tion activities can be performed behind the scenes.”6
That is true in the United States, where bailouts are conducted by
a private central bank answerable to other private banks; but in
England, the central bank is at least technically owned by the
government, warranting more transparency. The cost of that
transparency, however, was that the Bank of England came under
heavy public criticism for its bailout of Northern Rock. It was criticized
for waiting too long and for bailing the bank out at all, emboldening
other banks in their risky ventures.
At one time, U.S. bailouts were also done openly, through the FDIC
under the auspices of Congress; but that approach cost votes. The
failure of President George Bush Sr. to win a second term in office was
blamed in part on the bailout of Long Term Capital Management that
was engineered during his first term. The public cost was all too obvious
to taxpayers and the more solvent banks, which wound up paying
higher FDIC insurance premiums to provide a safety net for their high-
rolling competitors. As Congressman Ron Paul noted in 2005:
These “premiums,” which are actually taxes, are the primary
source of funds for the Deposit Insurance Fund. This fund is
used to bail out banks that experience difficulties meeting
commitments to their depositors. Thus, the deposit insurance
system transfers liability for poor management decisions from
Web of Debt

those who made the decisions to their competitors. This system
punishes those financial institutions that follow sound practices,
as they are forced to absorb the losses of their competitors. This
also compounds the moral hazard problem created whenever
government socializes business losses. In the event of a severe
banking crisis, Congress likely will transfer funds from general
revenues into the Deposit Insurance Fund, which would make
all taxpayers liable for the mistakes of a few.7
Under the Fed™s new stealth bailout plan, it could avoid this sort of
unpleasant scrutiny by taxing the public indirectly through inflation.
No longer was it necessary to go begging to Congress for money. The
Fed could just create “credit” with accounting entries. As Chris Powell
commented on the GATA website in August 2007, “in central bank-
ing, if you need money for anything, you just sit down and type some
up and click it over to someone who is ready to do as you ask with it.”
He added:
If it works for the Federal Reserve, Bank of America, and
Countrywide, it can work for everyone else. For it is no more
difficult for the Fed to conjure $2 billion for Bank of America
and its friends to “invest” in Countrywide than it would be for
the Fed to wire a few thousand dollars into your checking
account, calling it, say, an advance on your next tax cut or a
mortgage interest rebate awarded to you because some big, bad
lender encouraged you to buy a McMansion with no money
down in the expectation that you could flip it in a few months
for enough profit to buy a regular house.8
Better yet, the government itself could issue the money, and use it
to fund a tax-free, debt-free stimulus package spent into the economy
on productive ventures such as infrastructure and public housing. A
mere $188 billion would have been enough to repair all of the country™s
74,000 bridges known to be defective, preventing another tragedy like
the disastrous Minnesota bridge collapse seen in July 2007. Needless
to say, the $300 billion collectively extended by the central banks did
not go for anything so socially useful as building bridges or roads.
Rather, it went into subsidizing the very banks that had precipitated
the crisis, keeping them afloat for further profligacy.


The Derivative Iceberg Emerges from the Deep

Alarm bells sounded again in January 2008, when global markets
took their worst tumble since September 11, 2001. The precipitous
drop was blamed on the threat of downgrades in the ratings of two
major mortgage bond insurers, followed by a $7.2 billion loss in de-
rivative trades by Societe Generale, France™s second-largest bank. The
collapse in international markets occurred on January 21, 2008, when
U.S. markets were closed for Martin Luther King Day. It was bad
timing: there was no Federal Reserve, no Plunge Protection Team, no
CNBC Squawk Box on duty to massage the market back up. If there
was any lingering doubt about whether a Plunge Protection Team
actually went into action in such situations, it was dispelled by a state-
ment by Senator Hillary Clinton reported by the State News Service
on January 22, 2008. She said:
I think it™s imperative that the following step be taken. The
President should have already and should do so very quickly,
convene the President™s Working Group on Financial Markets.
That™s something that he can ask the Secretary of the Treasury
to do. . . . This has to be coordinated across markets with the
regulators here and obviously with regulators and central banks
around the world.9
The Plunge Protection Team evidently responded to the call, because
the market reversed course the next day; but the curtain had been
thrown back long enough to see what the future might bode. Both the
French crisis and the bond insurance crisis were linked to the teetering
derivatives pyramid. Market analyst Jim Sinclair called it “the crime
of all time,” but he wasn™t referring to the French debacle. He was
referring to the derivative scam itself.10
The record loss by Societe Generale was blamed on a single 31-
year-old “rogue trader” engaging in “fictitious trades.” That was how
the story was reported, but the bank admitted that the trader had not
personally benefited. He was trading for the bank™s own account.
The “fraud” was evidently in concealing what he had done until the
losses were too massive to hide. Carol Matlack, writing in Business
Week, asked:
How could SocGen, which ironically was just named Equity
Derivatives House of the Year by the financial risk-management
magazine Risk, have failed to detect unauthorized trading that

Web of Debt

it acknowledges took place over a period of several months? Do
banks need to tighten the controls put in place after rogue trader
Nick Leeson brought down Barings Bank in 1995? Or is the red-
hot business of equities-derivatives trading just too tricky to
control? . . . .
Some risk-management experts contend that such a scandal
was inevitable, given the global boom in trading exotic securities.
“This stuff happens more than people may like to admit,” says
Chris Whalen, director of consulting group Institutional Risk
Analytics. Banks increasingly are moving away from traditional
banking into riskier trading activities, he says. SocGen™s problem
was “a rogue business model, it™s not a rogue trader.”11
The “rogue business model” is the derivatives game itself. The
whole $681 trillion scheme is largely a confidence trick composed of
“fictitious trades.” Jim Sinclair wrote:
I see this entire matter as the crime of all time . . . . Default
swapsi and derivatives were always a scam if you consider their
inability to do what they had contracted to do. . . . All that existed
was world class unbridled greed. . . . [T]he entire financial world
is now threatened with a problem for which there is no practical
solution . . . unwinding derivatives that are hell bent on producing
a Financial Apocalypse.12

Unbridling Greed:
The Effects of Deregulation

That the derivatives scam was indeed mainly about greed was
confirmed by investment guru and trading insider Jim Cramer in a
televised episode on January 17, 2008. Mike Whitney, who transcribed
the rant, writes:
In Cramer™s latest explosion, he details his own involvement in
creating and selling “structured products” which had never been

A credit default swap is a form of insurance in which the risk of default is

transferred from the holder of a security to the seller of the swap. The problem is
that the seller of credit protection can collect premiums without proving it can
pay up in the event of default, so there is no guarantee that the money will
actually be there when default occurs.


stress-tested in a slumping market. No one knew how badly they
would perform. Cramer admits that the motivation behind
peddling this junk to gullible investors was simply greed. Here™s
his statement:


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