I'm puzzled by all the recent hyperventilating over the 2005 bankruptcy bill and the special treatment of derivatives in bankruptcy proceedings. Derivatives and certain other financial contracts are exempt from the automatic stay in bankruptcy, which essentially gives derivatives counterparties priority over all other claimants. (For an explanation of why it's important to give derivatives special treatment in bankruptcy, see the excerpt at the end of this post.) Josh Marshall kicked off the outrage a few days ago, when he highlighted the exemption for derivatives in a post titled, "How the Rules Were Rigged":

But separate from the immediate financial implications related to AIG, it does point us toward the larger political economy point: the self-reinforcing cycle in which financialization leads to vast sums of money concentrated in the hands of paper-jobbers, who then mobilize that money in Washington to rewrite the laws to privilege them for even greater profits.
Arianna Huffington, among others, quickly agreed with Marshall's interpretation:
It's worth noting that, thanks to the industry-written 2005 Bankruptcy Bill, derivatives claims are not stayed in bankruptcy -- so the financial institutions that gambled and lost would nevertheless be the first ones paid off. Isn't gaming the system fun?
The problem with this story is that the 2005 bankruptcy bill didn't create the derivatives exemption (called a "carve-out") — the exemption for derivatives was originally enacted in 1982, and was really solidified when the statutory language was clarified in 1990. The 2005 bankruptcy bill just clarified the definitions of the various exempt contracts. For example, the pre-2005 definition of an exempt "swap agreement" included the catch-all phrase "or any other similar agreement," which almost certainly covered credit default swaps. But just to be sure—to provide that all-important legal certainty—the 2005 bankruptcy bill amended the definition of "swap agreement" to explicitly include credit default swaps. There was no substantive change, just a clarification—a process otherwise known as "modernizing" the financial regulations in order to keep up with financial innovations. Given how rarely our financial regulations have been modernized over the past 25 years, it's a bit strange that one of the few successful efforts to actually modernize financial regulations is attracting so much criticism. Moreover, the special treatment of derivatives and other financial contract isn't unique to bankruptcy proceedings. In old-fashioned FDIC receiverships (which everyone seems to love right now), "qualified financial contracts" (QFCs) — e.g., derivatives and securities contracts — have long been exempt from the FDIC's avoidance powers, in order to permit the orderly netting of derivatives contracts. Since major bank holding companies (e.g., Lehman, Citigroup) aren't covered by the FDIC resolution process, it's only natural for the FDIC's QFC exemption to be extended to the Bankruptcy Code. Essentially, exempting derivatives from the automatic stay in bankruptcy is a way to harmonize insolvency procedures. ------------------------------ This FDIC article provides a nice explanation of why it's important that derivatives and other financial contracts be exempt from the automatic stay. It's all about close-out netting:
As with other financial instruments, including bonds and equity securities, derivatives pose credit, market, liquidity, operating, legal, settlement, and interconnection risks. One of the primary ways to reduce the risks to individual parties in derivative or other financial contracts is the ability to settle the transactions by payment of a single net amount. Netting is simply taking what I owe you and what you owe me and subtracting to yield a single amount that should be paid by one of us. Netting can be a valuable credit risk management tool in all multiple transaction relationships by reducing the credit and liquidity exposures by eliminating large funds transfers for each transaction in favor of a smaller net payment. Close-out netting, or the ability to terminate financial market contracts, determine a net amount due, and liquidate any pledged collateral, is a valuable tool to protect against credit and market risks in cases of default. This is particularly important in the financial markets because, unlike loans or many other financial contracts, the value of derivatives and other financial market contracts are based principally on their fluctuating market value. If one of the parties to a derivative or other financial market contract is placed into bankruptcy or receivership, the normal stays on termination of contracts and liquidation of collateral could create escalating losses due to changes in market prices. As a result, the ability to terminate the contract and net exposures quickly can be crucial to limit the losses to the non-defaulting party because such contracts can change in value rapidly due to market fluctuations.


Don said...

"This is particularly important in the financial markets because, unlike loans or many other financial contracts, the value of derivatives and other financial market contracts are based principally on their fluctuating market value"

This makes it sound like it is simply a procedure to put these investments on an equal footing with fixed investments, since, theoretically, when the assets were dispersed, the fluctuating claims could be worthless.

Don the libertarian Democrat

Benedict@Large said...

This is still nonsense; a quid pro quo with the Lords of Capital.

If the fluctuating value of the derivatives contract is the problem, why not simply fix the settlement price as of the day of the bankruptcy filing and let the counterparty get in line with everyone else? Why let a financially ailing company toss Hail Mary passes by effectively subordinating senior debt (without the debt holder's knowledge, mind you)? Talk about moral hazard and inviting the tunneling of remaining assets! Just one more way for the sharks to empty out companies and leave nothing behind but rot for the unwary and underarmed creditors.

ngogerty said...

the special treatment was probably put in place to mitigate chain settlement risk. http://nickgogerty.typepad.com/designing_better_futures/2008/09/cds-and-systemic-risk-a-primer-about-chain-settlement-risk.html

The fact special regulation was need should have been alarm bell that systemic risk was being piled on.

bankruptcy advice said...

This makes it sound like it is simply a procedure to put these investments on an equal footing with fixed investments, since, theoretically, when the assets were dispersed, the fluctuating claims could be worthless.

Runescape Gold said...

This makes it seem like it is simply a task to place these kinds of investment strategies on an equivalent ground having fixed ventures, considering that, in theory, in the event the possessions ended up being spread, the actual fluctuating boasts may very well be ineffective.

Runescape Gold for Sale
Buy Runescape Gold

Anonymous said...

This topic came up, Diablo 3 Goldvery much consistent with Krugman, with the weblog Zero Hedge. I needed to inform you I submitted a quote from your write-up in additionGuild Wars 2 Gold to a url to your web site in his remark segment.

sam john said...

Hey, great blog, but I don’t understand how to add your site in my rss reader. Can you Help me please? bankruptcy lawyer

ibaikaltablet said...

Smiling to the world! This is great and excellent! Sometimes we may be sad toward the world, but smile is always a Günstiges android-Smartphone ohne Vertrag online kaufen good friend in our side and keep us from away the terrible world~

Trần Duy Thuận said...

Trần Duy Thuận Blog đang cần nhận gia công tại nhà. Ai có cần người nhận gia công tại nhà tphcm liên hệ mình nhé. Truy cập vào đặt vé máy bay giá rẻ vietjet để có thêm kinh nghiệm khi đi máy bay nhé.

Fire Ball said...

Bạn đang tìm mua các sản phẩm điện máy cũ? Bạn chưa tìm ra nơi để mua? Nếu là như thế hãy ghế qua shop thằng ghờm. Nơi bán các loại máy lạnh cũ toshiba, nơi bán máy giặt cũ hcm hàng đầu, dễ dàng sở hữu cho mình một chiếc tủ lạnh mini cũ giá rẻ. Hãy đến để sở hữu cho mình những sản phẩm với giá cả tốt nhất và chất lượng hàng đầu.

Hãy đến với ngôi nhà kiến thức với chuyên mục có thể bạn chưa biết sẽ giúp bạn giải đáp được những thắc mắc như fa là gì, atsm là gì, email là gì... Hãy ghé qua để cập nhật kiến thức mới.

kartu esia said...

obat kutil kelamin yang manjur dan murah
obat herbal khsusus untuk kutil kelamin
obat kutil kelamin tradisional
Obat kanker rahim tradisional
Obat tradisional sipilis paling manjur
cara alami mengobati kencing nanah
Obat Generik Kencing Nanah Di Apotik
Obat yang manjur untuk kencing nanah
Obat herbal yang manjur untuk kanker serviks yang sudah akut
Obat kutil kelamin tradisional yang paling manjur
Obat tradisional untuk kanker serviks yang sudah parah
Obat penyakit kelamin kencing nanah
obat kutil kelamin herbal
Obat herbal yang manjur untuk mengobati kutil kelamin
obat kutil kelamin untuk laki2
obat yang ampuh menghilangkan kutil
Obat Alternatif Kanker Serviks Stadium 1,2,3,4
Tips mengobati kutil kelamin
Obat herbal untuk kencing nanah

herbal isme said...

obat wasir tanpa operasi
Bejolan di batang penis | Obat kutil herbal
Mengenal Penyakit Kelamin Sifilis | Obat sifilis herbal
Obat Aman Sipilis Paling Manjur | Obat Sipilis Tradisional
Obat Sipilis Untuk Suami Istri Paling Manjur | obat sipilis tradisional
Obat Sipilis Untuk Pria Paling Manjur | Obat sipilis Tradisional
Obat wasir yang sudah parah dan menahun
Obat ambeien atau wasir untuk pria | obat wasir tradisional
Bagaimana cara mengobati benjolan wasir ? | Obat wasir tradisional
Obat wasir paling manjur yang aman tanpa efek samping
Obat apa yg paling cocok untuk iritasi pada kulit penis | obat kutil kelamin
Penyakit seperti kutil di bokong | obat kutil kelamin
Cara alami mengobati kista | obat kista herbal
Cara Mengobati Wasir Secara Alami

Bambang Wisanggeni said...

obat gonore herbal
obat khusus untuk kutil di kemaluan
obat herbal untuk penyakit sipilis raja singa
nama obat untuk penyakit raja singa
cara mengobati penyakit kelamin raja singa
harga obat herbal untuk kutil di sekitar kemaluan
obat untuk penyakit kelamin gonore sipilis raja singa
obat kutil di kemaluan yang alami
pengobatan herbal untuk kutil di kelamin