joeblack

Pliny, research "credit tranches" if you want to follow how mortgage vehicles work. You're quite off base. As for the Friedman quote, countries were not, in fact, on a fiat system "right after WW1." Britain returned to the standard in 1925, and then once again left the gold standard in 1931. Many countries followed the same return/exit pathway. And stats show that the sooner countries left the gold standard, the quicker their respective economies recovered. The US was the exception to the rule, as ironically staying out of the war until the very end and at the same time functioning as a lender to France and Britain allowed the US to essentially accumulate all the gold stores in the world at the time. You have to remember that at the time, all the European powers left the gold standard during WW1 in order to finance their war efforts. Germany (using your example) not only had to finance their own war, but afterwards had to pay for the war efforts of the Allied nations as well. Printing money with no economic faith in the country's system is what caused the "rampant inflation" you are describing. Wikipedia for once actually offers a pretty good read on the gold standard, and provides a touch more information than an out-of-context quote from Milton. http://en.wikipedia.org/wiki/Gold_standard#Depression_and_World_War_II_.281932.E2.80.9346.29 As for the tax system, I agree it is complex. It gets that way out of our own ingenuity. Good intentions start the pathway, but then when an ingenious fellow decides that capital gains are not the same as income, then suddenly the good intentions don't quite cover it. An amendment is made, and things continue. If you think tax law is complex, try interpreting common law... All that being said, Canadian tax law is actually very progressive and forward compared to our Yankee brothers to the south. Now THERE is a messed up system.

There isn't enough precious metal to cover the current credit market, and that is why the current financial system is the way it is. The gold standard was actually a huge reason the depression of the 30's happened. Once countries left the gold standard, the extension of credit to individuals and businesses exploded and in turn grew the respective country's economy.

Dig deeper than a quick browse at investopedia is all I can say. If you want to put your head in the sand, I can't stop you. Suffice it to say that while investment banks record REVENUE by selling securities (and via fees), financing between banks for purchases and capital is extremely common. Certainly I'm not implying that you go to Bear Sterns and ask for a car loan; the fact remains though that traditional banks and investment banks do lend to each other. http://www.bloomberg.com/news/2010-06-01/interbank-lending-market-died-with-lehman-bankruptcy-chart-of-the-day.html http://www.channelnewsasia.com/stories/afp_world_business/view/1147913/1/.html Everything else you said regarding the sub-prime vehicles is spot on though.

Bonam, To use your words, the part you yourself are missing and glossing over is the fact that the situation wasn't a strictly "investment bank" problem. The way the investment banks work is, like you said, not necessarily like a traditional bank. That being said, investment banks USE traditional banks as their lender. For every dollar an investment bank had on the books, JP Morgan and Wells Fargo would loan, say, 5 dollars to said investment bank. Bear Sterns, Morgan Stanley, Citi, all those guys were heavily leveraged via this route. And the traditional banks wouldn't just lend based on cash values, they would accept balance sheet asset figures as collateral. So when the investment banks showed $50 million in sub-prime mortgage securities, the traditional banks would loan say 5x that amount using said securities as collateral. Of course we all know those sub-prime vehicles were garbage, but the traditional banks didn't at the time. So when Lehman collapsed, the traditional banks couldn't get their money because Lehman spent it on the wrong side of a trade, and the collateral they put up turned out to be worth zero. The trad banks were left holding dust, which is exactly what happened. All the talks of "toxic assets" was about exactly this issue, just using fancier language. This kind of thing happened all across Wall Street. It's how aquisitions are financed. It's how short positions are taken. If the investment banks were allowed to fail, suddenly the traditional banks are out all the money they had tied up in the investment banks, either through cash or securities. And these aren't small amounts either; we are talking 1-3 trillion depending on which estimate you go with. This causes a serious problem, as the way our financial system is designed, banks don't have dollar-for-dollar reserves on hand. For every dollar a US bank had on hand as reserves, I believe the figure was fifteen dollars were loaned out. So the issue that arises is that when an investment bank fails, AND the citizen population want their money at the same time because they are worried about their own bank failing, the banks can't cover the shortage. This causes panic, and it doesn't matter how "insured" your funds are, when the capital isn't on hand to pay you out regardless. Roosevelt had to have mandatory bank "holidays" (aka. close banks) in the 30's due to bank runs. Add to the mix that Chinese investors have their investments in US banks. US banks have loans outstanding to Canadian banks. Canadian banks have loans to US banks. Euro banks have loans to US banks. And you think these guys always play with numbers of less than $250,000? Of course not. There is 7 trillion dollars in physical deposits in the US. The US government can't even come up with a way to pay off 14 trillion in debt in two years; what funds to you expect the US government to insure all the funds of depositors at failed banks? Yes you could print money, but then again Zimbabwe tried that and look how well it worked. And because all these institutions are tied to eachother via huge capital in US markets, once that capital disappears, Bank of Montreal is in serious trouble. What will probably happen here is we will agree to disagree. I have no faith whatsoever that the government could have contained bank failures had they let the market run its course. The way the current reserve system is structured, it would have been impossible to limit the fallout to JUST investment banks, when traditional institutions were the biggest creditors to the investment banks.

You do realize that by "improving the system" by letting the banks fail, that nice little nest egg you have in your savings account at the treasury branch would be gone, right? Grandma's GIC's would disappear as well. The new family saving up for a down payment on a house would have seen that payment disappear as well... Flushing out the garbage is right. These "prudent companies" you speak of were all tied to eachother via the way the Western financial system is organized. One goes down, they all go down. And that's exactly what we saw happen. Bear Stearns essentially collapsed, Lehman collapsed, and Morgan Stanley was next. This wasn't something that could be phased in over a long stretch of time ie. gradual Swedish-style restructing. Something had to happen over night, and this was the result. Am I agreeing with essentially privatizing the gains, while making the public eat the losses? Of course not. But if it is a stop-gap measure to make sure the system stays in place so that we all can draw cash out of at ATM at the end of the day, I'm okay with that as long as serious changes happen afterwards. Again, least-worst option. But by all means, please explain how the damage is overstated. Possibly toss in some examples of how bank runs don't ever happen, and bank collapses are business as usual. I really would like to be on the other side of the fence, hating these companies for getting hand-outs for sucking at life and believing that all the big banks in the US disappearing wouldn't really matter, but it's that last part that I have a hard time getting my head around. The hating is easy, believing the financial system will still succeed when all its legs have been cut out from under it are a different story.

"Some" banks fail? Lehman failed, and look at the crash it caused. The thing is if the US had let any more of the banks fail, the whole system would have collapsed over night, taking with it the Western European banks as well as the Canadian ones. It wasn't that "some" banks would fail; they all would have. Then what? And forgive my ignorance but you're going to have to explain this bond bubble to me. Especially after the S&P downgrade, and how instead of people fleeing bonds, they bought more. And have after a third round of "quantitative easing" there is still a huge market for US T-Bills... I don't see the US dollar collapsing. Losing value, yes, but that's relatitive to what side of the currency you're on.

MSJ, I'm not necessarily disagreeing with you. My argument would be that the US financial system specifically is the issue, not free market theories. I also think that the Freddie Mac and Fannie May programs are heavily to blame, as is the US FASB system of allowing insured debt to be classified as an asset. Free market and regulation are contradictory in the sense that you've described it. The free market did its thing, with the investment banks making a killing while the getting was good. Then the market responded accordingly by dumping the worthless sub prime mortgage vehicles. The trouble was that the dumping put an unbearable strain on the banking systems of the US, most specifically the investment banks that were hugely leveraged. A strong argument can be made that the market DID "regulate" itself, for better or worse, via the stock sell-offs in '08. With that in mind, I'm not saying it was the most beneficial thing to have happen. I quite like the Canadian system, where banks are regulated a heck of a lot more than the US instituions are/were. We also have heavier liquidity requirements up here, so that banks can't be so heavily leveraged as to cause problems. The Canadian system also follows IFRS accounting principles, so that insured debt can no longer be classified as assets. A combination of the above I think leads to a far more stable financial system than the one our US brothers have, through a combination of a more liquid foundation as well as more accurate balance sheet info. I guess my beef is that a lot of people cry foul about the current system, when I tend to think it's the "least worst" option. Like Churchill said, democracy is the "...worst form of Gov­ern­ment except for all those other forms that have been tried..." and I would measure our current market system the same way. I guess you have to ask yourself what other options we have, and personally, I can't come up with anything else other than the current system with slightly more/slightly less regulation. And to keep on topic, the bailouts were a way to keep the current system running, as it was the "least worst" option we had at the time.

MSJ, pretty broad brush you're painting with... Like I first said, the issue was the extension of credit to people who shouldn't have had it in the first place. I could have gone into more detail about how the "little lenders" in turn sold that debt to the investment banks, the investment banks turned around and bundled that credit into AAA-rated tranches, Freddie Mae and Fannie Mac in turn guaranteed said investment vehicles, AIG took the other side of the trade, and due to the loopholes of US FASB accounting, turned that debt into an asset that can be used for leveraging the purchase of more of those credit tranches, funded by loans from other big banks. Then the whole mess was sold to institutional investors all around the world, and the house of cards stayed together until the teaser rates on the mortgages ran out (hence "sub prime) and everything came tumbling down... Suffice it to say we are actually on the same page. And interestingly enough, for those who don't want to read, South Park actually did an excellent job of explaining the above as well. And as was stated, the "loans" this thread is talking about are not a surprise/secret. I think the next "sky is falling" article that should be posted should be about how the private non-investment banks (Ie. JP Morgan, Wells Fargo) gave out billions in secret loans too. We could have a real conspiracy on our hands.

The bailout is proof that bad credit extended to people who shouldn't have said credit in the first place and multiplied hugely, and using said credit as a financial instrument that can be used as hedging capital can cause very large problems. It has no bearing on the validity of the market economy. What's the alternative? Central planning? Marx called, he wants his economic policies back.

Yes, because we all know bank runs and financial institutions collapsing is an even better alternative....

I know this is bumping an old thread, but just in case people are using this as a reference: Clearly you didn't inquire too deeply Scotty, as there is no issue with "double dipping" as it is being called here. There are two common ways of getting money out of a corporation: management fees or dividends, or a combination of both, depending on the client's circumstances. For example, say your corporation grosses $100,000 and has $50,000 in expenses. You then have $50,000 in profit. You can deal with this in two ways: 1. Record a business expense called a management fee (or bonus, whatever) of $50,000. This in turn causes your corporation to make zero income, and of course you don't pay any corporate taxes when you don't make any money. You in turn take that $50,000 into personal income, where you pay tax on it at an approx 30% rate, resulting in a final tax expense of $15,000. 2. The second way to receive the money is via a dividend from the corporation to your person. The company instead records net income of $50,000 and pays tax at a 14% rate (AB small business rate), resulting in a tax expense of $7,000. Remembering that dividends are paid out of after-tax money, the company then records a $50,000 dividend due to your person. Because the Canadian government recognized that the $50,000 dividend has already had tax paid on it, long story short you make up the difference between the tax already paid and what your personal rate is. Generally speaking, dividends of less than $40,000 will result in zero personal tax, so in this case lets say the $50,000 results in a net personal tax due of $1,000, resulting in a total tax expense of $8,000. Any CA worth his salt would be able to have told you this, so I don't know how deep you dug. Suffice it to say there is no such thing as "double dipping". Anyway, like I said, just in case people are using this as a reference I figured this needed to be cleared up. I have a lot of clients who use both methods to get money out of their corp, and with decent tax planning essentially use their corporations as a better version of an RRSP. I could get into this more if there is interest, but will cut it short for now. As for the actual drawbacks of incorporating, it mainly comes down to extra paperwork and higher accounting fees. Other than that, there is no harm whatsoever, and people mainly choose to incorporate for the tax advantages and for the limited liability. Cheers.

Once the costs are on par with "normal" energy, then I might be convinced.