Financial Treason

I previously noted that Goldman, Citigroup and JP Morgan - fresh from receiving many billions of dollars in taxpayer bailouts to rescue them from their black hole of derivatives debt - were betting on the failure of companies such as GM, which the taxpayers will probably end up bailing out.

Evidence for the destructiveness of that debt is shown in this update from Bloomberg:

"A collapsed U.S. auto industry would lead to defaults on over $1 trillion in corporate bonds, credit default swaps and other financial instruments," Michigan Democratic Sen. Carl Levin said in a statement provided to Reuters.

"Major additional damage to U.S. financial institution balance sheets would result, and another grenade would be tossed into our credit markets," Levin said.

The threat is so serious that "Credit Crisis Part II" looms if the government doesn't come to the aid of GM and Ford, said J.P. Morgan analyst Eric Selle, author of a research report that pro-bailout Democrats like Levin are citing.

Remember, derivatives bets against the companies increase their costs, which drives up the odds of their failure, which means taxpayers will have to pay to bail them out.

Now, Goldman is recommending that investors buy credit default swaps in reference to the following states:

• California

• Connecticut

• Florida

• Hawaii

• Illinois

• Massachusetts

• Michigan

• Nevada

• New Jersey

• Ohio

• Wisconsin

As Bloomberg points out:

Morgan Stanley has also recommended using swaps to bet against state credit. [And] Merrill Lynch recommends the derivatives to “institutions who want a vehicle to express relative value views” . . . .

Not only are they huge recipients of taxpayers-funded bailouts, but Goldman and Merill also happen to be two of the largest underwriters of municipal bonds.

So there is a little conflict of interest here. They are insuring municipal debt, but recommending that people bet against states - which will drive up the costs to the states, which will increase the likelihood of their default, which in turn will increase the risk that the cities will, in turn, default, in a cascade of failures.

In fact, betting against states increases the likelihood that the U.S. government itself will default on its loan obligations, since the feds might have to bail out the states.

This is financial treason.