The Zurich-based Bank for International Settlements (BIS) recently estimated the size the back-alley derivatives crapshoot for which it serves as clearinghouse at $596 trillion. By way of comparison, the U.S. annual gross domestic product is about $15 trillion; the total value of the world's real estate is estimated at about $75 trillion.
BIS now concludes in its annual report that the risk-arbitrage practices that gave rise to such a towering figure might have been a wee bit reckless and maybe just a tad irresponsible... "How, for example," wonders the bank -- which has skimmed untold billions in settlement fees from the international traffic in derivatives over the last several years -- "could a huge shadow banking system emerge without provoking clear statements of official concern? Perhaps, as with processes for internal governance, it is simply that no one saw any pressing need to ask hard questions about sources of profit when things were going so well." The report deplores the sale of complex derivative products "to the gullible and the greedy, the latter often relying on leverage and short-term funding to further increase their profits," and blames the looming crisis, at least in part, on "regulatory mismoves." Here's the gist of an article summarizing the BIS annual report (the complete article can be found at Dow Jones Online Financial News):
BIS warns of 'tipping point'
Matt Turner 30 Jun 2008
The global economy could be facing a deeper and longer lasting downturn than analysts have predicted, the Bank for International Settlements has warned, as complex structured products and regulatory mismoves combine to prolong the problems first witnessed during the onset of credit crisis. Speaking at the Bank's annual general meeting in Basel, general manager Malcolm Knight said that the prevailing economic climate represents "the greatest challenge central banks have had to face in a number of years." The BIS 78th Annual Report, a 251-page review of the global economy released at the general meeting, highlights the key issues of inflation, turmoil in the financial markets and slowing real growth as causes for a prolonged downturn. The report said: "While difficult to predict, their interaction does appear to point to a deeper and more protracted global downturn than the consensus view seems to expect." "With a significant risk of recession in the United States, compounded by sharply rising inflation in many countries, fears are building that the global economy might be at some kind of tipping point. These fears are not groundless."
