If you have been following the melt-down of the financial markets and are a bit confused… This will clear up the situation for you.
Heidi is the proprietor of a bar in Berlin. In order to increase sales, she decides to allow her loyal customers – most of whom are unemployed alcoholics – to drink now but pay later. She keeps track of the drinks consumed in a ledger (thereby granting customer loans).
Word gets around and the result is increasing numbers of customers flooding into Heidi’s bar. Taking advantage of her customers’ freedom from immediate payment constraints, Heidi increases her prices for wine and beer, the most-consumed beverages. Her sales volume soars.
A young and energetic employee at the local bank recognizes these customer debts as valuable future assets and increases Heidi’s borrowing limit. He sees no reason for undue concern since he has the debts of her customers as collateral.
Heidi’s business explodes and she opens up a second and then a third bar. In order to accommodate these hoards of new customers Heidi finally incorporates her business and buys out bars all over Europe.
At the bank’s corporate headquarters, expert bankers securitize these debts (classify these debts as assets) and use them as collateral to create DRINKBOND, ALKBOND and PUKEBOND derivative contracts. These contracts are then traded on markets world-wide. No one really understands what these abbreviations mean and how the securities are guaranteed. Nevertheless, as the prices of these contracts continuously climb, they become top-selling items.
One day, although the prices are still climbing, an investment risk manager in the bank’s corporate headquarters (subsequently fired for his negativity) finally decides that the time has come to demand payment of the debts incurred by the drinkers at Heidi’s Bars, Inc.
However, they cannot pay their debts.
Heidi’s Bars, Inc. cannot fulfill its loan obligations and claims bankruptcy.
DRINKBOND and ALKBOND contract prices drop 95 percent. PUKEBOND contracts perform a little better, dropping only 85 percent.
The suppliers of Heidi’s Bars, Inc. having granted her generous payment due dates and having invested in these securities are faced with very difficult situations. Many of them declare bankruptcy, and most of the others are taken over by competitors.
Following dramatic round-the-clock consultations by government leaders, the bank that created and sold these now virtually worthless securities is saved by the government’s infusion of billions of taxpayers’ euros. The bank’s board of directors promptly reward the senior managers, who created and approved the sale of these securities, with multi-million euro performance bonuses.
The funds required for this bailout are obtained by taxes levied on the non-drinkers.