Debt Crisis For Dummies

This is one of the clearest explanations Ive read regarding the debt crisis and the credit bottleneck that is stifling the Americas economy and recovery from the “Great Recession.” Humor is often the best tool for teaching those who find it difficult to learn or who are being taught lessons that they’d rather not learn.

Debt Crisis For Dummies

Helga is the proprietor of a bar. She realizes that virtually all of her customers are unemployed alcoholics and, as such, can no longer afford to patronize her bar. To solve this problem she comes up with a new marketing plan that allows her customers to drink now , but pay later.

Helga keeps track of the drinks consumed on a ledger (thereby granting the customers loans).

Word gets around about Helgas drink now, pay later marketing strategy and, as a result, increasing numbers of customers flood into Helgas bar. Soon she has the largest sales volume for any bar in town.

By providing her customers freedom from immediate payment demands Helga gets no resistance when, at regular intervals, she substantially increases her prices for wine and beer the most consumed beverages.

Consequently, Helgas gross sales volumes and paper profits increase massively. A young and dynamic vice-president at the local bank recognizes that these customer debts constitute valuable future assets and increases Helgas borrowing limit. He sees no reason for any undue concern, since he has the debts of the unemployed alcoholics as collateral.

He is rewarded with a six figure bonus.

At the banks corporate headquarters, expert traders figure a way to make huge commissions, and transform these customer loans into DRINKBONDS. These securities are then bundled and traded on international securities markets.

Naive investors dont really understand that the securities being sold to them as AA Secured Bonds are really debts of unemployed alcoholics. Nevertheless, the bond prices continuously climb and the securities soon become the hottest-selling items for some of the nations leading brokerage houses

The traders all receive a six figure bonus.

One day, even though the bond prices are still climbing, a risk manager at the original local bank decides that the time has come to demand payment on the debts incurred by the drinkers at Helgas bar. He so informs Helga. Helga then demands payment from her alcoholic patrons but, being unemployed alcoholics, they cannot pay back their drinking debts. Since Helga cannot fulfill her loan obligations she is forced into bankruptcy. The bar closes and Helgas 11 employees lose their jobs.

Overnight, DRINKBOND prices drop by 90%. The collapsed bond asset value destroys the banks liquidity and prevents it from issuing new loans, thus freezing credit and economic activity in the community.

The suppliers of Helgas bar had granted her generous payment extensions and had invested their firms pension funds in the BOND securities. They find they are now faced with having to write off her bad debt and with losing over 90% of the presumed value of the bonds. Her wine supplier also claims bankruptcy, closing the doors on a family business that had endured for three generations; her beer supplier is taken over by a competitor, who immediately closes the local plant and lays off 150 workers.

Fortunately though, the bank, the brokerage houses and their respective executives are saved and bailed out by a multi-billion dollar no-strings attached cash infusion from the government.

They all receive six a figure bonus.

The funds required for this bailout are obtained by new taxes levied on employed, middle-class, non-drinkers whove never been in Helgas bar.

H/T to MibsBlog for the above explanation.

Now do you understand the recurring debt crises, even a little?

Bankers, stock traders, and similar financiers make their money from money or enabling and controlling access to money. If you either encourage or force them to provide money to subprime borrowers they will find ways of mitigating their risks and to actually capitalize upon this poor behavior. This is what they’re trained to do.

And, when not if, the system collapses, the government bailing the bankers, stock traders, and similar financiers out just places a higher burden upon those people who were never party to the failure in the first place, often forcing them into becoming yet more subprime borrowers.

And so the entropic cycle repeats itself.

Related Reading:

Economics of Money, Banking, and Financial Markets, 10th Edition
Fat Vampire
The ABCs of Money
If Greece goes...: The impact of a Greek default on Europe and the world economy
Drinking Diaries: Women Serve Their Stories Straight Up

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