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richardhutnik on 07 August 2011
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Kasz216 said:
richardhutnik said:

In a sane world where derivatives are used to minimize risk that occurs in the line of performing regular business, they are fine.  The problem is that derivatives, and excessive faith in them, plus quantitivate analysis, results in people taking far more risks than they normally would.  This, in turn, produces a culture where everyone is driven to take excess risks, and then when the unthinkable happens, then the you have a crash far larger than would occur before.  In the past, we had the savings and loan crisis, with housing, and it didn't take down the entire economy as this last one did.  

A reason why I don't blame the government completely and fully for the crisis, while I can fault them for a good chunk of it, is that blaming the government ends up being an excuse to justify individuals in t he market for taking too many risks, and presuming their are bulletproof, and screwing things up.  What one has to realize is the markets ARE risky and you can just magically make the risks go away.  I would also suggest that things be done to eliminate "too big to fail".  But hey, it is convenient to bring up loss of jobs whenever you want to get a bailout from government.  Too much big business will cry loss of jobs whenever they want their government pork.

In a "sane world" where derivatives are only used to minimize risk, the global economy wouldn't nearly be as big as it is now... currently.  Post recession.

I think you underestimate how much derivatives have ran and grown the world wide economy.

Did it occur to you that it is entirely possible that the size of the world economy is built on sand that is not sustainable?  If you have an entire economy starting off with malinvestment, which then is coupled with malproduction and malconsumption, all that mal will not be sustainable, and is bound to fall.

Then, thrown in all sorts of interconnections in the banking system and consolidation, where the banking industry consists of fewer and fewer banks, and when they freeze up, the economy goes down with it.

And I am fully aware of how much derivatives there are out there.  Talk of over $600 trillion totally flowing about, with the amount of paper wealth out there increasing ever more over actual physical assets.  

The problem with the assumptions behind derivatives is that, people presume they can make themselves have it so their entire system can't ever come crashing down, and their returns are assured.  The problem here, as in examples I have listed prior, is that it isn't the case, as was seen with the hedge fund that presumed that governments never defaulted, and the leveraged to the hilt off it, to the inane belief that housing prices could always rise to a rate multiple times higher than inflation.  People leverage to the hilt off it, and assume nothing bad can happen.  In fact, it does.  Whether it is government pushing the markets one way with meddling, or a black swan, such happens.

Here is Warren Buffett on derivatives and the housing bubble:


Back in 2003 he called derivatives "Weapons of Mass Destruction":

http://news.bbc.co.uk/2/hi/2817995.stm