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The trust that wasn’t

I anticipate that we will see more and more court decisions like the one described here by Yves Smith. The mortgage industry, in connivance with bankers and financiers of all shapes and sizes, introduced into the political economy, by means of innumerable frauds and sophistries, a whole field of unhedged risk: namely, the risk that the documents do not demonstrate what the securities confected out of them need them to demonstrate in order to be functioning legal securities.

Bond markets, among other menaces, remain perplexed by this uncertain risk. The financiers, again, have only themselves to blame for their woes. Let some hack attempt to prove that government, dread government, forced these enterprisers to commence their business of setting up trusts to pay out revenue to investors, by failing to properly set up legal trusts for said purpose, and I will presently prove that I am a donut.

The problem is that when the securities are shown to be overvalued, because the trust which holds their underlying asset — the mortgages — wants for legitimate evidence of its right to hold such assets, the financial system as a whole (that is, the collection of big banks which allocate capital in our capitalist system) is struck another grievous blow. The banks are undercapitalized; many are flat-out insolvent. Their parasitism is choking small business everywhere. Large businesses have direct access to capital markets (and indeed investment-grade corporate debt may be just the sort of reliable asset that could conceivably replace government debt as the pricing mechanism for bond markets, in an imagined brave new world of discredited sovereigns); but small businesses must purchase credits from banks. And banks, exposed so gruesomely by their failing mortgage assets, ain’t selling.

So while at the highest, most concentrated and bureaucratic level the weakness of the banks further entrenches the plutocratic principle of TBTF, down in the trenches of small business, the weakness of banks further encourages the failure of even promising firms.

It’s one hell of a mess.

(Cross-posted.)

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