Paul Craig Roberts Warns of the Derivatives Weak-Spot in Big Banks

March 16, 2023, 2022 (EIRNS)—Paul Craig Roberts, who was Assistant Secretary of Treasury for Economic Policy during the Reagan Administration, gave, in both a March 13 article on his own website, and in a March 15 interview with RT, a chilling picture that the critical problem within the current banking crisis could be a generalized derivatives failure at the five largest U.S. banks, the core of the U.S. banking system. He also asserted that much of the current problem arises from the Federal Reserve’s hawkish interest-rate-raising policy, and the repeal of the Glass-Steagall Act in 1999.

Roberts told RT that five large U.S. banks—JPMorgan Chase, Bank of America, Citigroup, Wells Fargo, and Goldman Sachs—have trillions of dollars in derivatives that they are currently holding. Yet, their capital base is only in the billions. “So, they are exposed to risk in the trillions of dollars and they do not have the capital base to support that risk. So, if something happens again in these derivatives as it did earlier this century when we had the big crisis, those banks will be in jeopardy,” he told RT.

Roberts pointed out that if the core money-center banks get into trouble from their derivatives, this problem will spread to Europe. These banks, he remarked, are simply too large and there’s much interrelatedness. Roberts asserted, “I doubt if Biden or anyone in his administration, or even the Federal Reserve, has any idea of the extent of risk. To put it very [clearly], the five large U.S. banks hold derivatives, the value of which is twice the size of the GDP of the entire world. They hold $188 trillion in derivatives. So, what is the risk of this? No one knows.”

Roberts traced the root of troubles back to 1999 when Franklin Roosevelt’s 1933 Glass-Steagall Act was repealed. Prior to that, he said, commercial banks couldn’t engage in investment banking, while investment banks took risk on their own money. However, when Glass-Steagall was lifted, the commercial banks started to gamble with the savings of depositors. That has allowed tremendous risk-taking, which was previously not part of the system.

He pointed out that the Glass-Steagall Act had prevented panic-buying crises for 66 years until it was repealed in 1999. “When they took that away, they initiated a pattern of behavior that leads to crises,” Roberts said.

He warned in his conclusion, “So, we don’t really know the full extent of the trouble in the banks... It’s just like the derivatives that blew up in 2007/2008, and we lost banks, we lost Wall Street firms.”