The end is now in sight for American insolvency

Watching what bankers do has always been a more profitable occupation than believing what they say. This morning, there are one or two hints in the air that Wall Street is preparing for an American default….and stocking up ready to face the derivative-bets Tsunami once interest rates rise.

As we’ve seen before, Wall St buys an awful lot of US Treasuries – in return for which, the Federal Government aka the People get to buy the toxic junk off the banks. The banks make an effortless turn on the Treasuries, while the Government buries the toxic debt down a deep mineshaft somewhere.

Over the last two years, what with this (and QE making stock price rises a certainty) the US banks have managed on the whole to get their books back into some kind of semblance of order….while earning huge fees for underwriting mega-mergers with all this low-cost money and Treasuries they keep getting. So well viewed are US T-bills by the markets, banks can also use them as collateral against borrowings they make in order to lend to the merger boys, who are Growing By Getting Bigger. Don’t worry if you can’t follow this: it’s all pointless bollocks anyway, outside of two key objectives: staving off US insolvency, and ensuring that the banks make lots of money  – having previously lost all of ours.

Now however, spoilsport Ben Bernanke has signalled there’ll be no QE3…..yet. And that means, with less free money to play with, the banks will have to be more focused about preparing for the day when bad derivative calls become due for payment. Bear in mind here that the interest-rate derivatives sector alone is several times bigger than the global economy in total.

So the banks, being patriotic an’ all, are giving the Feds notice that they probably won’t be buying as many Treasuries off them in the future. In fact, roughly one second after QE3 finishes at the end of July, they may not be buying any.

“We’re planning to lower our reliance on the use of Treasuries in early August, and have more cash on hand as a contingency measure,” a US bank chief told the FT  at the weekend. Neatly failing to name the contingency involved, what the big banker means is they want to have more cash up front with which to pay off the derivative bookies. And they’re worried that, without agreement in Congress on the debt ceiling, they could lose a whole lot of money down the road if their pocket-lining merger activity brave attempts to kick-start the economy wind up being backed by worthless paper.

“This could easily trigger serious lending starvation for growing businesses,” said another US banker, clearly a bloke who likes his lies laced with irony. More likely, what it will do is ensure the banks are alright Jack, and to hell with the Government.

The other beauty of this approach for the bankers is that they can sit on the Treasury sidelines without incurring risk, and see what the cookie crumbles into eventually. If the US goes bust well, gee, you win some you lose some. And if the US merely looks less safe than it did – a much more likely eventuality – then once the Treasury yields start rising, they can pile right back in again at an even higher margin than they enjoyed before.

In fact, with a bit of luck, the economy will slide to a halt again, and so Ben will reluctantly introduce QE3, and the whole circus can start all over again.

As he’s The Man with a Re-Election Plan, President Obama is highly unlikely to argue with any of this, because the alternative doesn’t bear thinking about. So yet again last night, the White House announced a series of informal meetings between Obama and senior bankers, in order to reassure them that he isn’t a card-carrying commie. In 2009, Barack Obama promised the American people that ‘never again’ would Wall St hold the nation to ransom.

I think he’ll wind up keeping his word on that one, because there ain’t no point kidnapping a country that’s broke. And the banks’ self-serving strategy is, without doubt, bound to accelerate that result.

All we can do is hope that somebody, somewhere outside a bank has planned what to do when the USA defaults. But even though hope springs eternal, every now and then it needs a little encouragement. So if you have some, it’d be good to read about it in the comment thread.