Documentary ~Inside Job~ Critiqued

Religio-Political Talk (RPT) ^ | 5-31-2011 | Papa Giorgio

[SeanG200]

Claim: “Derivatives have no value of their own, yet are a $50 trillion market. Using derivatives, traders can bet on anything.”

Inside Job argues that derivatives have no value of its own because its value is derived from another asset.

On the other hand: A Reuters special report on derivatives has a good argument: Big companies regularly use derivatives as a form of insurance to guard against jumps in the price of everything from cocoa to interest rates. An airline will buy jet fuel derivatives so that if prices spike, the contract helps to make up the difference in price, enabling the carrier to budget and plan ahead. If jet fuel prices fall, the loss made on the derivatives contract is canceled out by savings from cheaper refueling bills. It’s the same with barley for beer or aluminum for cans, or any other commodity you can think of.

Also, the OTC market is a $600 trillion industry, so if you’re going to take issue with something that should be regulated, you might want to take it up with OTC.

[SeanG200]

In this posting there are some major points of contention presented as well as those agreeable ones. There is an embeddable Michael Medved interview with the director from the documentary. There are also videos of Bill Clinton blaming this mess on Democrats, and Democrats in their own words (in another video) stopping regulation. Then a link to a larger critique but some of the main points posted on this page for clarity and ease of access.

[rbg81]

Inside Job argues that derivatives have no value of its own because its value is derived from another asset.

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Derivatives are a form of insurance. By this argument, the Insurance industry has no value. The real issue is that derivatives were (are) sold too cheaply because little risk was perceived when it was actually quite large. Just ask AIG about that.

[Sonny M]

bump.

[KC Burke]

I think one problem is that unlike any other insurance type product there were no commercial, state, SEC or Federal standards for deriviatives. Underwriting was left up to the marketer and the reserves for loss were nonexistant compared to other insurance products with such commonality — expecially in the mortgage derivatives.

It would be the same as having no underwriting standards and your entire insurance pool was low lying New Orleans residential frame construction — when a loss occured, no reserve would be big enough.

[reed13]

My understanding has always been that there are many types of derivatives some have inherent value and some do not. I have seen options used to backstop losses as a form of insurance which makes sense...there is a value on what has already been purchased and it is backstopped by a sell at a given price to someone who is willing to pay it if that price is met. Other forms of derivatives do not have such inherent value and are pure gambling on movement.

I worry they’ll throw the baby out with the bathwater just like any other time organizations and governments get involved.

If we just allowed failures to fail and got on with the vulture cleanup of the mess things would resolve themselves much more quickly. This whole thing about trying to find blame in speculation where there is none has to stop.

[Gen-X-Dad]

It is a zero sum game until the loser of said derivative contracts is asked to pony up (like AIG). If they can’t because they were leveraged 100-300 to 1, then the whole thing implodes taking the entire system down with it. Even the inventor of derivative theory has said the current usage of it is insane and a stack of cards waiting to collapse. This is why the FED will keep pumping money into the big four TBTF banks (who happen to hold $250 trillion dollars in derivatives) until they bankrupt us. None of this has been fixed since the 2008 collapse. As long as there is a counter party to keep paying them (currently the US taxpayer) they will keep leveraging it up.

[XEHRpa]

One of the points in the documentary, which I just watched this morning, is that a derivative isn’t insurance in the normal sense. With insurance, you can only insure against that which you own. With derivatives you can insure what someone else owns, and thus many people can be insuring the same thing. When your house burns down, the insurer is on the hook for the price of one house. When a derivative blows up, there can be a large number of copies out there, all of which must be redeemed.

There is something intrinsically unethical about betting your neighbor’s house will burn down, but that is essentially at the core of the problem with credit-default swaps, etc.

The documentary had a number of persuasive points, but they lost me when they sympathetically portrayed (in the form of subject-matter experts) the following people in interviews: George Soros, Dominique Strauss-Kahn, and Barney Frank, with Matt Damon as the narrator.