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Beer and Derivatives … a perfect combo!

Another attempt to explain the financial crisis.

The last ones were with birds and cows.  This time it's beer-bellied drunks!

John owns a bar and, in order to increase sales, decides to allow the most loyal customers – who are mainly unemployed drunks – to drink now but pay later.

He keeps track of the drinks consumed on a slate behind the bar, which some would call giving the customer a loan.

Word gets around about John's slate and, as a result, his bar gets to be really popular.

Thanks to the increasing numbers of customers flooding into the bar, John decides to increases prices for wine and beer, which are the most popular drinks.

Putting it all on the slate works, and the sales volumes and margins increase massively.

Seeing how popular the bar is, a young and dynamic manager at the local bank decides to create supporting finance to allow John to expand.  After all, he can see how John's great work in building a loyal customer base is great, and his unwavering support of the local community in the form of the slate is also a strong reason to help John out. 

So the banker decides that the slate – debts – is a valuable future asset to securitise any borrowing, and increases John's lending limits ten-fold.

There's no reason for undue concern as John has the debts of the drunks as collateral.

At the bank's corporate headquarters, expert bankers transform these assets into Crusty Beer Odours (CDOs), Structured Imbibement Vehicles (SIVs) and Mouldy Bums and A-holes (MBA's).

These securities are traded on markets worldwide and prove to be wildly popular as everyone is selling more beer and wine on the back of such securities.

No one really understands what the abbreviations stand for or how the securities are guaranteed but, as their prices climb continuously, the securities become top-sellers in the derivatives markets.

One day, although the prices are still climbing, a risk manager – who is subsequently fired by the bank for his negativity of course – asks a really stoopid question:

"Has the time come to demand John's customers pay off the slate at the bar?" he asks.

What an eejit.

Of course, they cannot pay the slate.

Unfortunately, the risk manager sparks some tough questioning of John's slate and results in proving that John cannot fulfill his loan obligations, so he files for bankruptcy.

The results is that CDOs and MBAs drop in price by 95%.

SIVs perform better, stabilizing in price after dropping by 80%.

The suppliers of John's 's bar go bust, as they gave him generous payment due dates.

His wine supplier also claims bankruptcy, whilst the beer supplier is taken over by a competitor.

Thankfully, the bank is saved by the Government following dramatic round-the-clock consultations by leaders from the governing political parties (who also put a lot of alcohol on the slate!).

And they all agree that the only way to find the funds to pay for all the slates and associated debts has to come from a tax levied on non-drinkers.

Everyone sobers up …

Thanks to Will Gibson for this variation on a theme.

About Chris M Skinner

Chris M Skinner
Chris Skinner is best known as an independent commentator on the financial markets through his blog, the Finanser.com, as author of the bestselling book Digital Bank, and Chair of the European networking forum the Financial Services Club. He has been voted one of the most influential people in banking by The Financial Brand (as well as one of the best blogs), a FinTech Titan (Next Bank), one of the Fintech Leaders you need to follow (City AM, Deluxe and Jax Finance), as well as one of the Top 40 most influential people in financial technology by the Wall Street Journal’s Financial News. To learn more click here...

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