Lurker, the derivatives you're referring to are unregulated and as I imagine you know quite complex, which makes it very difficult to properly value them in the market. You might think they are wonderful inventions, but I view them as weapons of financial destruction, since they depend on the ability of others to pay in the case of certain events, like defaulting on a mortgage or a sharp move in interest rates. It's very profitable to provide mortgage insurance as long as you don't have to pay out on too many defaults. The models which enabled the banks to continue to offer these products are at the root of the financial instability.
Of course it's a conspiracy by the banks- it enables them to gain more business than they could have without the derivatives. These financial vehicles created a seriously distorted perception of risk, which has now resulted in the failure of a number of hedge funds and certain offerings by Bear Stearns, including one where they are preventing investors from redeeming their holdings!
The recent down-draft in the stock market is directly related to the uncertainty about the actual value of these instruments based on the factual observation of the number of mortgages in default or close to it. That and the fact that when Bear Stearn tried to sell these CDO's and MBS's in the market they found NO BUYERS!
You know very well that the one thing investors in bonds don't like is uncertainty. They all rushed into these things thinking they were safe and provided a better return than Govt. bonds. A lot of financial institutions world-wide invested in these things, and now many of them are taking a serious hit.
Banks are enablers of risk taking behavior as is the Fed. They never saw a problem they couldn't solve without papering it over with more liquidity- money out of nothing, (at least since Greenspan became Fed chairmen) which eventually finds it's way into the general economy, fostering inflation.
The people who control the money and access to it are responsible to a great extent for the stability of a society. If you think that the Fed's decision to stop publishing M3 figures was just a coincidence, you're kidding yourself!
The very value of money-people's savings depends on the amount of money in circulation. The Fed creates money out of nothing- it is backed only by the ability of the US government to pay off the debt from income derived from taxing the people. Fiat currency has always failed throughout history- Gold or other commodities impose a fiscal discipline on Governments that prevents them from spending too much. In the absence of such restraints, people in power can't resist the temptation to inflate.
The value of a currency is directly related to foreign trade. China has taken advantage by pricing their currency so low that US producers cannot compete, just as Japan did years ago. If there was a reckoning in Gold, they couldn't get away with that! You know that currency value is related to the amount of goods and services flowing in both directions. China sells a lot more to us than we do to them, and they now have a Trillion dollars in reserves, some of which they use to keep their currency low in the forex markets. By buying Dollars they increase the demand for them.
You cannot have free-trade with countries that peg their currencies! You cannot have free markets when countries cheat and try to gain an advantage by manipulating the value of their labor by these games.
You blame the homebuilders, but the banks lend them the money to build more homes than the market can handle. The difference is that the homebuilder goes out of business when he can't pay his nut. The bank just cries to the Fed, and continues on.
By all means, you should read from as many sources as possible in your efforts to understand the issue.
The inflation coming down the road is already here. Higher prices in the midst of an economic downturn, just like in the 80's. But unlike the 80's where Volker and the Fed were determined to strengthen the dollar by reducing monetary aggregates, any attempt to do that today would destroy the actual economy. The excess liquidity created cannot be drained from the system. So instead it will destroy the value of the federal reserve notes in your wallet. And even worse, the wallets of our parents, who no longer able to work rely on their savings and pensions to make ends meet.
Inflation is like a hidden tax, destroying the stored value of your labor. Valued in terms of Dollars the stock market has risen since the crash in 2000. Valued in terms of something like gold or oil, reveals that the increase is due to inflation. Yes, everyone has more money, but the value of each one is significantly less. This is the fault of those who expand the money supply to excess- the banks!
