Friday, February 12, 2010

Credit default swaps and the Greek piñata

Not directly a tax justice issue, but this is a fine article:

"For over 250 years, insurance markets have required buyers to have an insurable interest; another name for skin in the game. Your neighbour cannot buy insurance on your house because they have no insurable interest in it. Such insurance is considered unhealthy because it would cause the neighbour to want your house to burn down – and maybe even light the match."

But in the world of credit default swaps (CDSs):

When the CDS market started in the 1990s the whiz-kid inventors neglected the concept of insurable interest. Anyone could bet on anything, creating a perverse wish for the failure of companies and countries.

Currently, it's Greece that's failing.

"When we look behind CDS prices, we don’t see an objective measure of the public finances of Greece, but something very different. Sellers are typically pension funds looking to earn an “insurance” premium and buyers are often hedge funds looking to make a quick turn. In the middle you have Goldman Sachs or another large bank booking a fat spread.

Now the piñata party begins.
. . .
singling out a company or country, making it the piñata, grabbing their sticks and banging it until it breaks. As in the child’s game, the piñata is left in shreds. "

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