Shadow banks may control about 25 to 30 percent of the word’s financial system. They may be about 50 percent of all banking assets in the world. I say may in both of those sentences because it is hard to tell how big this financial sector is. The United States may [...]]]>
Shadow banks may control about 25 to 30 percent of the word’s financial system. They may be about 50 percent of all banking assets in the world. I say may in both of those sentences because it is hard to tell how big this financial sector is. The United States may make up about 40 to 50 percent of all shadow banking. However, shadow banking is spread throughout the world.
Shadow banks are not as regulated as regular banks. They also go about gathering capital for lending in a different way than regular banks. They often securitize assets such as commercial and residential mortgages, corporate bonds, consumer loan packages, and the like. Shadow banks also find other assets and derivatives of those assets to back up their securitized debt instruments. Many use US Treasury bills and other sovereign debt (the debt instruments of many nations and their equivalent of Treasury bills, for example) to act as risk mitigation and collateral in the “loan” making process.
Shadow banks also rely on something called the repurchase (repo) markets to liquefy debt and other assets in the short run – even though most of these assets are long run ones, like mortgages and long term bonds. Simply put, repos are a way to quickly pay off short term debts and also to get some of the debt off the books of the shadow banks either overnight or even for longer periods.
Ok, this is all very complicated. Frankly, for the shadow banks that complexity has protected them over the years. It has also led to some very big crashes because the people who should have understood what was going on did not. That includes many governments and even some of the leadership of the shadow banks themselves.
So what we have is a large massive part of the world financial system basing its capital on sliced and diced assets with sometimes questionable risk calculations and even sometimes questionable valuations of the assets. How much might it be? How does $40 trillion dollars sound?
The valuation of the assets could be a real problem if there is a war with Iran that gets out of hand and leads to significant damage to oil and gas fields and facilities in the Gulf. If energy prices spike and spike again for the short run, the market could bear that. If the oil and gas prices spike and stay way up in many markets then we have a much bigger problem.
One of the mechanisms of asset destruction in the shadow banking system can be a huge increase in energy prices followed by recessions or worse in many places, including in the already fragile EU, China and the US. Other commodity and goods prices will be affected as well.
Many shadow bank assets are heavily leveraged. Does this sound familiar? Leveraged shadow bank assets took down the US and part of the world economy when the housing market went bust in 2007-2008.
Many shadow banks are heavily into derivatives and even derivatives of derivatives. If the underlying assets of the derivatives collapse due to falling economies then the derivatives collapse along with them.
It is quite possible that under some war and conflict scenarios attached to scenarios of oil and gas prices that the economic impacts of a protracted and quite damaging war with Iran could be magnified well beyond the normal way this is considered.
Shadow banking is huge. It needs to be considered in calculations about military conflict. The losses could be gigantic on the financial markets.
Some shadow banks might benefit from war if some of the sharpies in the shadow banks have already set up derivatives and options as hedges betting on a war. They cash in if the war happens.
Either way some people in the shadow banks could lose. Some could win.
The regular folks lose. The top guns in the shadow banks will drive their Ferraris. The regular people may end up selling apples.
You see, a war with Iran now would be very different than if it happened in 1979. Back then the shadow banking system was tiny. Derivative markets were tiny compared to what they are now. The leverage and risk inherent in sometimes unstable sliced and diced assets in the tens of trillions was just not there.
Is this something to think about? I surely believe so. I am going to look much more deeply into this situation and hope to have more to write about it to clarify and educate, hopefully before possibly catastrophic events take place.
Policy conclusion: take great care and do your homework on the realities of the risks within the world economy before stepping off the cliff toward a potentially very costly war.
To read more about shadow banking try:
]]>George Santayana wisely said: “Those who cannot remember the past are condemned to repeat it.” Oblivious to history and its lessons, the United States and its Western allies are repeating their actions from the 1950’s–that of imposing an oil embargo on Iran. The US-led alliance has forgotten [...]]]>
George Santayana wisely said: “Those who cannot remember the past are condemned to repeat it.” Oblivious to history and its lessons, the United States and its Western allies are repeating their actions from the 1950’s–that of imposing an oil embargo on Iran. The US-led alliance has forgotten the past.
Iran remembers.
When under the leadership of the nationalist Dr. Mossadegh, Iran opted to nationalize its oil industry, the British Royal Navy blocked Iran’s oil exports to forcefully prevent if from nationalizing its oil. In retaliation to Iran’s nationalistic ambitions, and to punish Iran for pursuing its national interests, the British instigated a worldwide boycott of Iranian oil.
In the 1950’s, Iran did not have the military might to retaliate against the oil embargo and the naval blockade was aimed at crushing the economy in order to bring about regime change. The subsequent events are described in a New York Times[i]article as a “lesson in the heavy cost that must be paid” when an oil-rich Third World nation “goes berserk with fanatical nationalism.” Iran learnt that sovereignty and nationalism necessitate tactical/military strength and determination.
Not heeding the aftermath of the 1950’s, the American-led Western allies have once again imposed an oil embargo on Iran. In retaliation, Iran has drafted a bill to stop the flow of oil through its territorial waters–the Strait of Hormuz, to countries that have imposed sanctions against it. This bill is not without merit and contrary to the previous oil embargo, it would appear that Tehran has the upper hand and the heavy cost associated with the embargo will not be borne by Iran alone.
Iran’s Legal Standing
The 1982 United Nations Convention on the Law of the Sea stipulates that vessels can exercise the right of innocent passage and coastal states should not impede their passage. Although Iran has signed the Treaty, the Treaty was not ratified and as such it has no legal standing. However, even if one overlooks the non-binding signature, under the UNCLOS framework of international law, a coastal state can block ships from entering its territorial waters if the passage of the ships harm “peace, good order or security” of said state, as the passage of such ships would no longer be deemed “innocent”[ii].
Even if Iran simply chooses to merely delay the passage of tankers by exercising its right to inspect every oil-tanker that passes through the Strait of Hormuz, these inspections and subsequent delays would maintain or contribute to higher oil prices. While higher oil prices would benefit Iran and other oil-producing countries, they would further destabilize the European economy which is already in crisis.
The Military Option
Although US-led Western allies are flexing their muscles by sending battle ships to the Persian Gulf, Washington’s own war game exercise, the Millennium Challenge 2002 (with a price tag of $250 million), underscored its inability to defeat Iran. Oblivious to the lesson of its own making, by sending more warships to the Persian Gulf the US is inching towards a full-scale conflict. The inherent danger from a naval buildup is that unlike the Cuban Missile Crisis, the forces in the Persian Gulf are not confined to two leaders who would be able to communicate to stop a run-away situation. Nor would the consequences of such a potential conflict be limited to the region.
Given that 17 million barrels of oil a day, or 35% of the world’s seaborne oil exports go through the Strait of Hormuz, incidents in the Strait would be fatal for the world economy. While only 1.1 millions barrels per day go to the US, a significant amount of this oil is destined for Europe. One must ask why the US demands that its “European allies” act contrary to their own national interest, pay a higher price for oil by boycotting Iran’s exports and increase the risk of Iran blocking the passage of other oil-tankers destined for them.
Again, history has a straight answer. Contrary to conventional wisdom about oil producing-countries, it is the US that has used oil as a weapon. Some examples include the pressure Washington put on Britain in the 1920s to share its oil concessions in the Middle East with US companies. Post World War II, the US violated the terms of the 1928 Red Line Agreement freezing the British and the French out of the Agreement.
In 1956, the US made it clear to Britain and France that no oil would be sent to Western Europe unless the two countries agreed to a rapid withdrawal from Egypt. The US was not opposed to the overthrow of Egyptian President Gamal Abdel Nasser, but President Dwight. D. Eisenhower said: “Had they done it quickly, we would have accepted it”[iii].
It is possible that the leaders of Western European countries are beholden to special interest groups such as pro-Israel lobbies, as the US is. Or they may believe that Iran will not call their bluff by ratifying the bill passed by the Majlis and that oil will be delivered unhindered. Perhaps both instances hold. Either way, they are committing financial suicide and may well suffer serious consequences before Iran’s resolve is shaken.
–Soraya Sepahpour-Ulrich is a Public Diplomacy Scholar, independent researcher and blogger with a focus on US foreign policy and the role of lobby groups.
[i]“THE IRANIAN ACCORD”, The New York Times, Aug 6,1954, cited by S. Shalom
[ii] Martin Wahlisch, The Yale Journal of International Law, March 2012, citing UNCLOS, supra note 12, , art. 19, para1, and art. 25, para1.
[iii] Stephen Shalom; The Iran-Iraq War citing Kennett Love, Suez: the Twice-Fought War, New York: McGraw Hill, 1969, p. 651
]]>- Foreign Policy: David Rothkopf charges that Roger Cohen’s recent New York Times op-ed totally disregards the threat posed by Iranian President Mahmoud Ahmadinejad. Instead, Rothkopf endorses Israeli ambassador to the U.S. Michael Oren’s New York Times op-ed demanding Palestinian recognition of Israel’s identity as a Jewish state. “As unproductive as the Israeli stance on settlements has been, the Palestinian stance on the nature of the Israeli state, and its ability to continue operations as conceived and sanctioned by the United Nations nearly six and a half decades into its modern existence is just as unconstructive and indefensible,” writes Rothkopf. He concludes with a variation of the debunked reverse-linkage argument, arguing that “[Ahmadinejad’s] grandstanding and inflaming crowds on Israel’s borders with the language of obliteration is not just rhetoric. It is part of a systematic and thus far effective effort to exacerbate dangers and, not secondarily, to prolong the misery of the Palestinian people whose right to a free, independent state created in their own image is, of course, every bit as great as that of the Israelis.”
- The Washington Times: Eli Lake writes that Ahmadinejad’s visit to Lebanon adds pressure to Lebanese Prime Minister Saad Hariri to withdraw his support of a UN investigation to determine who killed his father, former Prime Minister Rafik Hariri. “I think it’s clear that Ahmadinejad’s visit is intended to show support for Hezbollah at a time when it’s facing the prospect of indictments in the murder of Hariri and is engaged in a campaign to undermine and derail the tribunal,” said Ash Jain, a visiting fellow at the Washington Institute for Near East Policy. Lake’s article went to print before it was known whether Ahmadinejad would travel to the Israeli border—he did not—but he writes that such a visit “would signal Iran’s proxies were on Israel’s border.”
- FrumForum: Brad Schaeffer, an energy derivatives broker writing for the blog of neoconservative pundit David Frum, lines up three scenarios (best, mid,and worst case) on what could happen to oil prices should Israel attack Iran’s nuclear installations. Best-case results in only a small, temporary spike in prices and the Iranian leadership uses the strike to turn the “military lemon into PR lemonade” by playing “victim” without retaliation. A mid-level escalation would result in small to medium spikes, for a more sustained period, and attacks against Western forces. Worst case would mean an all out war (and closing the Strait of Hormuz) and the doubling of oil prices from their current levels.
- Time: Tony Karon describes Iranian president Mahmoud Ahmadinejad’s trip to Lebanon as emblematic of a U.S. policy failure in the region. The visit makes clear three difficult realities the U.S. is facing: “First, Iran is not nearly as isolated as Washington would like; secondly, the Bush Administration efforts to vanquish Tehran and its allies have failed; and, finally, the balance of forces in the region today prompts even U.S.-allied Arab regimes to engage pragmatically with a greatly expanded Iranian regional role.” Ahmadinejad met with Lebanon’s Christian president and Saudi-backed Sunni prime minister, notes Karon, and “he also appears to be placing a heavy stress on Lebanese unity and the need to avoid division” — rather than focus solely on Iran’s Hezbollah beneficiaries.