Tags: Papadimitriou | London | Whale | banks

Levy Economics Institute's Papadimitriou: Expect Another London Whale Shocker

By    |   Thursday, 20 June 2013 08:20 AM

Another London Whale shocker is a real possibility soon, says Dimitri Papadimitriou, president of the Levy Economics Institute of Bard College.

"Until our increasingly fragile system is strengthened, expect a remake of the London Whale story. Only the cast and crew will change," Papadimitriou writes in an article for The Huffington Post.

JPMorgan Chase lost $6 billion last summer due to large bets on derivatives by a top trader known as the London Whale.

Editor's Note: How You Lost $85,000 During the Last Decade. See the Numbers.

The Senate subcommittee investigating the mishap cited hidden, high-risk activities and concluded that what the bank called hedging was really proprietary trading — trades for profits for the bank, not trades for customers in return for commissions, he notes.

The problem was not proprietary trading. The problem is that the bank created a shadow bank, he says, pointing to a paper by Levy Economics Institute Senior Scholar Jan Kregel.

"What began as a unit to hedge risks — a safeguard — no longer served that purpose," Papadimitriou writes.

Kregel argues that when megabanks operate across all aspects of finance, propriety trading becomes inevitable.

Instead of stopping hedging, the solution is to recognize that hedging cannot be consistently profitable, according Kregel. Hedging only makes money when the bank's primary investments lose. Legitimate hedges usually lose money. That's why hedging should never be funded from customer deposits.

Bank lobbyists, Papadimitriou explains, have delayed or blocked the Dodd-Frank Act's attempts at financial regulation, including a rule to limit trading on derivative contracts and the Volcker Rule, which would require banks to separate consumer lending from speculative trading.

"Attempts to rein in the recklessness are relentlessly dismantled as soon as they're proposed."

In addition, hiring of additional regulators has stalled, slowing the implementation of Dodd-Frank rules.

The London Whale losses show the risks posed by such large banks, agreed Richard Sharp, a member of the Bank of England's Financial Policy Committee, in testimony to Parliament, Bloomberg reports.

"Risks aren't understood where they need to be understood within the organization," Sharp said.

"That obviously begs a question how even the regulator can be on top of that if even the organization itself can’t be on top of that risk?"

Editor's Note: How You Lost $85,000 During the Last Decade. See the Numbers.

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Another London Whale shocker is a real possibility soon, says Dimitri Papadimitriou, president of the Levy Economics Institute of Bard College.
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2013-20-20
Thursday, 20 June 2013 08:20 AM
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