Crisis Averted?

The bosses of the big banks always want to make us believe that the financial crisis is leading towards its end and that the worldwide finance and banking system has come away again with a black eye. But that is not the case. The crisis which has supposedly been resolved by the very dubiously financed American real estate market has just reached a new hazard level.

Banks have lost $500 billion (350 billion euros). A whole array of finance companies are in financial disorder. In the USA a number of banks have been closed and more will follow.

That is bad enough. It would be much worse if the big mortgage financers Fannie Mae and Freddie Mac broke down, a fate which has so far been hindered only through massive intervention by Finance Minister Henry Paulson and the Federal Reserve.

State forced to intervene

The Ministry of Finance and the Federal Reserve had no choice but to intervene due to one single reason: The collapse of Fannie Mae and Freddie Mac could have precipitated a core meltdown of the American bank and stock market systems, dragging the rest of the world with it into the abyss.

That is because these two banks are responsible for $5.3 billion (3.7 billion euros) of America's $12 billion (8.4 billion euro) total mortgage debt. That corresponds to one third of America's gross domestic product.

Besides that, pretty much all other banks have turned their backs on the mortgage market. An economic crisis in the USA would have very quickly become a depression -- and it would have had worldwide consequences.

In the end the government and the Federal Reserve felt compelled to act, since the two institutions play a central role on the mortgage market. They are practically the reinsurance for the mortgage banks -- they sell credit claims to the regional mortgage banks and, as the case may be, guarantee the claims and thus back them up.

Crisis still looming

Yet there is no longer much new business, quite the opposite: More and more real estate companies are coming under foreclosure. Experts take it for granted that in this year more than one million Americans will cut their debt service. The risks with Fannie Mae and Freddie Mac are piling up. In the case of a property crisis, this is the least favorable business model.

In addition, Fannie Mae and Freddie Mac trade under the names of private corporations, but cooperate closely with the state. The state had to act as the confidence crisis was getting more and more out of hand.

After they already obtained Federal Reserve credit on advance conditions, the state took them completely under its wing and supplied them with fresh money. The free-enterprise rules are being overridden, economic misconduct is going unpunished, and the state is stepping onto the scene as a savior.

After the profits are privatized in good times, the losses are socialized by the state. The amount under fire, which is financed by selling bonds from investors, including governments and central banks from all over the world, is simply too big to let the two mortgage financers slip into bankruptcy.

That shows to what extent the fire is blazing over the rooftops of the global finance systems. The danger of a finance system core meltdown may have been momentarily averted, but the bank crisis is still far from over.