Financial Shenanigan

Last week, the Buttonwood column talked about confidence, the confidence that we laid on the credibility of financial system.

But to our omittance, the ironic Ponzificating slid in and spread across the whole globe. Ponzi Scheme is a financial shenanigan, paying the higher return to the foremost from the money funnel by the hindmost, it depends on confidence or relies on mew backers to keep them going.

The hedge funds, private equities, pension funds, etc., all of them are chasing higher returns, so the sub-mortgage backed securities arose to sustain their dreams via rising house prices. But one day the real estate did not buoyant any more, so the securities sustained by the sub-mortgage deteriorated then the institution investors ran amok. That’s the Ponzi-like game.

More examples of Ponzi-like structures, 〈1〉pay-as-you-go pension systems depend on there being enough workers to fund promises made to retired employees, 〈2〉The health of the commercial banking system depends on the assumption that most depositors will keep their money in the bank, when there’s a bank run the result is usually an economic catastrophe.

Hyman Minsky, an American economist, distinguished three kinds of borrowers, Hedged debtors, Speculative borrowers, and Ponzi borrowers. Hedged borrowers and Speculative borrowers at least could pay their interest. But when the assets not appreciate any more, the Ponzi borrowers would go bankrupt, not to mention interest.

So beware the Minsky moment may come.

Reference︰http://www.economist.com/finance/displaystory.cfm?story_id=8864415
http://wallstreetexaminer.com/blogs/winter/?p=504

Ponzi Scheme：
http://en.wikipedia.org/wiki/Ponzi_scheme

Minsky moment：
http://www.bulletin.ninemsn.com.au/article.aspx?id=134435