The Glade 4.0

Easily Understood Explanation of Derivative Markets (In plain language, even a drunk can understand)
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Posted on Thursday, February 25, 2010 6:16:15 PM by Popman

Heidi is the proprietor of a bar in Detroit . She realizes that virtually all of her customers are unemployed alcoholics and, as such, can no longer afford to patronize her bar. To solve this problem, she comes up with a new marketing plan that allows her customers to drink now, but pay later.

Heidi keeps track of the drinks consumed on a ledger (thereby granting the customers' loans). Word gets around about Heidi's "drink now, pay later" marketing strategy and, as a result, increasing numbers of customers flood into Heidi's bar. Soon she has the largest sales volume for any bar in Detroit .

By providing her customers freedom from immediate payment demands, Heidi gets no resistance when, at regular intervals, she substantially increases her prices for wine and beer, the most consumed beverages. Consequently, Heidi's gross sales volume increases massively.

A young and dynamic vice-president at the local bank recognizes that these customer debts constitute valuable future assets and increases Heidi's borrowing limit. He sees no reason for any undue concern, since he has the debts of the unemployed alcoholics as collateral.

At the bank's corporate headquarters, expert traders figure a way to make huge commissions, and transform these customer loans into DRINKBONDS, ALKIBONDS and PUKEBONDS. These securities are then bundled and traded on international security markets.

Naive investors don't really understand that the securities being sold to them as AAA secured bonds are really the debts of unemployed alcoholics. Nevertheless, the bond prices continuously climb, and the securities soon become the hottest-selling items for some of the nation's leading brokerage houses.

One day, even though the bond prices are still climbing, a risk manager at the original local bank decides that the time has come to demand payment on the debts incurred by the drinkers at Heidi's bar. He so informs Heidi.

Heidi then demands payment from her alcoholic patrons, but being unemployed alcoholics they cannot pay back their drinking debts. Since Heidi cannot fulfill her loan obligations she is forced into bankruptcy. The bar closes and the eleven employees lose their jobs. Overnight, DRINKBONDS, ALKIBONDS and PUKEBONDS drop in price by 90%. The collapsed bond asset value destroys the banks liquidity and prevents it from issuing new loans, thus freezing credit and economic activity in the community.The suppliers of Heidi's bar had granted her generous payment extensions and had invested their firms' pension funds in the various BOND securities. They find they are now faced with having to write off her bad debt and with losing over 90% of the presumed value of the bonds. Her wine supplier also claims bankruptcy, closing the doors on a family business that had endured for three generations, her beer supplier is taken over by a competitor, who immediately closes the local plant and lays off 150 workers.

Fortunately though, the bank, the brokerage houses and their respective executives are saved and bailed out by a multi-billion dollar no-strings attached cash infusion from their cronies in Government. The funds required for this bailout are obtained by new taxes levied on employed, middle-class, non-drinkers who have never been in Heidi's bar.

Now do you understand?

Props to the article writer for not blaming the entire bond-buying stupidity on the government.

Facism is not a school of thought, it is a racial slur.

That's actually a failure of the writer, since the entire bond-buying stupidity is the government's fault in the first place.

I'm sure the government's decisions made sense to them at the time. It's hasty to call them "foolish", in my opinion.

Since the government A) consists of people who don't all think the same way and B) consists of people for whom what "makes sense" is what will please their constituents so that they can get re-elected, it's anything but hasty. Sure, it "makes sense" if your main consideration is to please people who are worried about "discrimination" to the exclusion of other concerns.

Isn't this a political system that you fully support? I thought you liked the vote?

I think it's foolish to call government officials foolish who are working their best within the system of your liking.

The fact that I support the way the system operates does not mean I can't castigate the individuals that are part of it when they screw up.

I like the system because I think it's as good a system as we're reasonably going to get, not because I think it's perfect.

I also don't think that government officials are doing their best when they ignore obvious hazards in the rush to please the electorate.

So you expect elected officials to act solely in the public interest, instead of balancing the public interest with their re-election aspirations?

In comic strips the person on the left always speaks first. - George Carlin

So you expect elected officials to act solely in the public interest, instead of balancing the public interest with their re-election aspirations? That is incredibly unrealistic.

If the governmental system is designed to support politicians who lead to its failure, then the system is essentially designed to fail.

The blame should not be on those politicians. They are only human.

You cannot expect most soldiers to rush into a battlefield where they know their deaths are certain... analogous to asking a politician to support platforms he knows will not get him re-elected.

I think it is at least imaginable that a better system would not involve elections.

I was unclear when I spoke about "the public interest".

The public interest, generally speaking, can mean one of two things. It can mean serving to best advance the general well-being, prosperity, liberties, and security of the people. It can also mean doing what the people think they want.

The former is better for society, but it might be extremely unpopular. The latter might be good for society, and it will help the politician get re-elected. The latter obviously also serves the personal ambitions of a politician.

Doing either is the duty of the politician. It is not a dereliction of duty to go with the popular platform, because that is what the people want, and mostly why the politician was elected. It is also not a dereliction of duty to advance the well-being of society against what the people want. A politician must weigh both always, and sometimes the balance tilts one way or the other. It's a difficult job.

I just don't think it's right to castigate politicians when they submit to the will of the voters and cause things to collapse. The politicians were just doing their duty.