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Under The Mountain Of Debt

By Eddy Laing

04 November, 2008

"The US economy can weather losses from sub-prime mortgages."
(Henry Paulson, Daily Mail, 2 August 2007)

"This is a humbling, humbling time for the United States of America."

(Henry Paulson, New York Times, 9 September 2008)

For over a year, since approximately the last quarter of 2006, the finance centers of the US and other 'developed' capitalist countries have been trying to cope with and keep hidden their most recent misbegotten enterprise. Not at all content with the super-profits wrung from the child labor of 'emerging markets', the ravaged landscapes of former rainforests, or the expansive shanty slums that surround every major city in the 'developing world', in recent years finance capital set about to construct an ever more elaborate global pyramid of debt based on repackaged bits of expropriated surplus that it then resold as 'whole goods'.

On 9 July 2007, Lehman Brothers' 'global equity strategist' told the Daily Telegraph, "We've never seen anything like this. There has been more money coming out than going into the market. There is more than enough liquidity to absorb current levels of issuance." Fourteen months later, Lehman Brothers filed for bankruptcy.

The current credit crisis is not primarily due to failing single family home mortgages, although mortgage debt is part of it. It is the coming due of capital debts that resemble Russian nested dolls, each one opening up to reveal yet more debt. These are the now-famous 'toxic assets', the 'collateralized debt obligations' and 'jumbo covered bonds' which promised to pay the holder based on the interest that would be collected on yet other debt instruments.

This is a scheme that promises to eclipse the 'junk bond' leveraged buy-out failures of the late 80s, the internet services speculative bubble of the late-90s and, as many have already noted, the global financial collapse of the 1930 and 40s.

Here is a snapshot of US mortgage debt:

The total residential mortgage debt in the United States as of the first quarter of 2008 stood at $12.08 trillion. Buried within that staggering amount of debt, increasing numbers of small homeowners are unable to make their payments and forced into foreclosure. Delinquencies in the US have risen over the past year, from .68% to 1.45%, representing a dollar value of about $175 billion. (1)
Consider that defaulted debt in relation to the global derivatives market, which presently represents debts of $531 trillion. (2)

For the millions of home mortgage holders, foreclosure is a serious hardship. Probably many will be left homeless, or nearly so. But the mortgage crisis, even taking into account similar default rates in other 'advanced' imperial countries pales in comparison to the collapsing value of the global debt sectors.

"In times of crisis, the demand for loan capital, and therefore the rate of interest, reaches its maximum; the rate of profit, and with it the demand for industrial capital, has to all extents and purposes disappeared. During such times, everyone borrows only for the purpose of paying, in order to settle previously contracted obligations." (Capital, Vol. 3. "Money-capital and real capital, III.")

The Road to the Present

How did finance capital arrive at this juncture? The present crisis in fact developed out of the conditions created by and during the immediately previous crises.

Although hidden or at least downplayed by the official homeland chronicles, the US economy went through a prolonged recession during 2001-2004. (This event was overshadowed by 'the events of 9/11' which, as we know, 'changed everything' in the psyche of imperialism.) That recession itself was partly an echo of the late-90s collapse that centered on the huge speculative bubble which was inflated around internet services.

In reaction to the recession of 2001-2004, the US Federal Reserve Bank - which regulates bank transactions - decreased the benchmark Federal Funds lending rate to below 2%, which in turn enticed renewed and new levels of borrowing and the transaction of debt itself. For example, investment (aka hedge) funds began using debt holdings as collateral in order to incur further debt which presumably was going to be converted into productive capital formations (e.g. as 'venture capital' to purchase equipment and materials, hire workers, etc.) Pyramid debt schemes are actually old-hat capitalism, but the 'instruments' that were developed to 'securitize' and then trade in debt 'assets' were new concoctions.

The various debt derived instruments packaged low-risk debts with higher-risk debts to make the individual obligations more attractive. Normal 'due diligence' considerations were set aside in so-called 'covenant lite' bonds which were floated with less regard for the usual considerations for the ability to repay, and the various bonds were offered with relatively high interest yields. Nearly $1 trillion of these loans were made in the first half of 2007 alone, and with the expanding trade in high-risk debt, default rates were also growing. (3)

Not every capital formation within the finance sectors participated equally or directly in this new scheme. Among commercial banks however, where most consumer debt obligations (e.g. mortgages, credit cards) are held, the practice of re-packaging blocs of consumer debt and trading it on to other financial concerns in return for potentially greater or immediate returns proved to be an irresistible offer. Institutional banks and other money-capital formations meanwhile underwrote 'jumbo covered bonds' and other CDOs that sent still more questionable debt into the financial markets.

Against news reports of CEOs and corporate executives being awarded multi-million dollar salaries and bonuses, the concept of diminishing profits may be unbelievable. But in the narrow and brutal world of global capitalism, there is never enough profit. The vampire analogy always comes to mind. Confronted with decreasing overall rates of return, even as it seeks out new resources to exploit, capital becomes more anarchic, more rapacious, more brutal.

Considering only the very largest formations, there are several financial sectors to the global capitalist economy: commercial banking, investment banking, property insurance, life/health insurance, and 'diversified' finance capital formations with variegated operations. Here is another snapshot of these sectors as aggregates, for fiscal period 2007-2008. (Some of this data has changed as the crisis continues to wipe formations off the books.) (4)

Commercial banking
assets: $62,691,585,000,000
share equity: $2,657,635.000.000 (4.24%)
return on assets: .5%

Investment banking (these firms either no longer exist or have re-formed)
assets: 3,876,318,000,000
equity: $128,482,000,000 (3.3%)
return: .3%

Diversified formations (e.g. General Electric, Fannie Mae & Freddie Mac)
assets: $3,110,248,000,000
equity: $236,977,000,000 (7.6%)
return: .6%

Insurance (property/casualty) (e.g. Swiss Re, Berkshire Hathaway, AIG, Munich Re)
assets: $5,136,011,000,000
equity: $519,008,000,000 (10%)
return: 1.2%

Insurance (life/health) (AXA, Aviva, Prudential, Met Life, etc.)
assets: $7,099,505,000,000
equity: $354,291,000,000 (5%)
return: .7%

Several of the commercial banks represented in these numbers - such as Wachovia and Washington Mutual - have bankrupted, been nationalized, or been swallowed up by larger banks. In the investment sector, Lehman Brothers is bankrupt while Bear Stearns and Merrill Lynch were acquired by other banks. The Diversified firms Fannie Mae and Freddie Mac have been 'nationalized', while General Electric sold a slice of itself to Berkshire Hathaway in the form of preferred stock. etc.

Importantly: Note the percentage return on assets. The compulsion to deal in increasingly leveraged debt is itself compelled by how little profit is being returned on these huge asset bases.

An International Crisis

The scope of this process is in no way confined to the United States. The sectors described in the figures above are international categories. While the US information sectors have primarily focused on narrow bands of the domestic results of the crisis, they have also tried to play down its significance and its reach. After years of triumphalist pronouncements, any admission that capitalism doesn't work or is even somewhat defective is not allowed in the mainstream discourse.

The dysfunction is increasingly difficulty to cover over, however, and it shows up ever more serious problems in the entire edifice of global capitalism.

The European business press, for example, began reporting on debt defaults early last year. The biggest UK bank, HSBC had to write off £5.6BN in bad debts during the first quarter of 2007. (5) Another UK bank, Barclays, was faced with writing down loans made to US mortgage lender New Century during this same period. (Goldman Sachs was also a big creditor to New Century.) (6) At mid-year 2007, 12% of the Northern Rock bank's market capitalization was on loan, (7) by September 2007 it required 'liquidity support' (big infusion of money) from the Bank of England, which could not prevent its nationalization at the end of February 2008.

The US banks Washington Mutual and Bank of America also issued huge 'covered bond'
offerings in early 2007, which were bought up by other big banks in Germany and France. The largest Euro-zone banks, such as HBOS, were making similar offerings worth billions of eurodollars. (8) In June of '07 the now defunct Bear Stearns had to transfer $3.2BN into two of its own hedge funds to meet obligations. (9) This was followed in August by the Australian Macquarie Bank which wrote off 25% ($220M) of two of its own investment funds, (10) and by the German bank IKB, which lost EU3.5BN in bad debt investments. (11)

During this same time, the financial news media cheerfully reported the rising volume of debt instruments in 'emerging markets' such as the Philippines, Indonesia and China. Throughout all of East Asia, this debt had grown to $2.8 trillion in the second half of 2006, up from $2.1 trillion the year before, with most of the 'growth' in China. (12)

In the midst of all this, an executive at the Moody's Investor Service - which monitors and rates the security of loan capital for the rest of the capitalist class - ominously observed that "underwriting has gotten so frothy ... the industry was heading to Niagara Falls." (13)

But rather than a precipitous crash, the credit crisis slowly but steadily ground on, subsuming everything in its path. From a low of 4% in 2003-2004, the Federal Reserve gradually ratcheted up prime interest rate to a high of 8.25% in mid-2006 and held that rate until the third quarter of 2007, ostensibly to control inflation but with the add-on effect of raising rates on adjustable rate mortgages, credit cards, and other types of debt.

As each nested debt was called in, banks scrambled to raise cash. As banks attempted to assemble hoards of cash to cover their 'assets', extended debts were called in. Bound by their own exigencies, every formation in the finance sector has stopped lending. Money-capital is scarcely available, and this reverberates throughout the capitalist economy where for many enterprises credit is needed to propel from one day to the next.

Seeing the plummeting value of booked assets, the equity markets respond by devaluing stockholdings. All of the so-called market indices are down sharply over a year ago. As of 9 October, the Dow-Jones 'blue chip' index is lower by 39%, the S&P 500 is off 37%, the NASDAQ technology index is down 41.5%. As the equity markets try to follow the money, money-capital has become a chimera.


1. Fannie Mae Office of Investor Relations. August 2008 Monthly Summary.
2. "Taking a hard look at a Greenspan legacy," New York Times, 9 October 2008.
3. "Investors run for cover from defaults." Daily Telegraph, 6 July 2007.
4. data compiled from Fortune Global 500 listings, July 2008.
5. "US home woes affect us too." The Observer (England), 18 March 2007.
6. "New Century collapse sends shockwaves across biggest lenders on Wall Street." The Times (London), 4 April 2007.
7. "Funds gang up on bank stocks." Sunday Times (London), 15 July 2007.
8. "Covered bonds debate: Covered bond issuers take on the global market." Euromoney, June 2007.
9. "Bear Stearns spares blushes by reassigning assets chief." The Times (London), 30 June 2007.
10. "MacBank alert: brace for sub-prime loss." The Australian, 1 August 2007.
11. "$43bn of deals pulled in a fortnight global debt special." Daily Telegraph, 3 August 2007.
12. "Measures sought to deepen marts." Business World, 24 April 2007.
13. "Bank warns about risky lending." EGi Web News, 8 May 2007.

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