The other unknown is credit default swaps and the counter-party risk thereof. At the end of my NYU speech, someone asked me how this would be resolved. My response was an honest “I don’t know the answer in terms of how it will settle but I do know that there’s not enough money to go around.”

Along those lines, I’ll share a conversation I had last night with one of the more astute professors in the Minyanville community. He offered:

“Under our Constitution and/or the International Emergency Economic Powers Act, the President has the right to suspend constitutional rights – including the Contract Clause of the Constitution – and to block transactions and assets.

In my opinion it is becoming rather apparent that the actual and pending debt defaults are growing large enough that the CDS liabilities triggered by these defaults will overrun the world financial system. We can argue whether from a philosophical standpoint the current financial markets should be allowed to disappear, but considering the social upheaval of such an event, philosophy will likely fall on deaf ears.

I suspect that Bush / Paulson / Bernanke may have no choice but to use their power to invalidate all Credit Default Swap contracts not held by holders of the underlying debt securities. These specs could then be given a right to assert claims against the under a statutory structure. This would re-establish parity between assets and liabilities and deleverage the system on the back of a few people who probably would be burnt at the stake if they were identified.”

It’s my belief there are no magic wands to solve what ails us and tremendous fallout would follow if this were enacted. However, given what’s at stake—not to mention current Main Street psychology—the government likely considers hedge funds an acceptable casualty of war in the broader solvency battle. I don’t support this approach but it’s making the rounds and I wanted to make sure Minyans are in the loop.

While we’re on grassy green knolls with tin foil hats, I’ll remind ye faithful of something I said late last year that fell mostly on deaf ears. The president has the right—no, let’s call it an option—to suspend the election in the event of national emergency. Such a situation is a low probability affair but I’ll toss it out there through the lens of “seeing all sides.”

Some Random Thoughts
 

• We’ve been talking about the dangers of debt and derivatives since 2003. I point this out for one purpose, and that’s to provide perspective with regard to magnitude and consequence. When people called us perma-bears—and it happened often—we politely reminded them that the imbalances were cumulative and when they eventually mattered, they would matter in a monster way.
  
  
• Shocker, eh? The Treasury is mulling direct stakes in banks, effectively shifting the notion of nationalization from semantics to reality.
  
  
• We’ve offered that the “right” rescue solution was to protect deposits (reward savers) and focus consequences on those culpable, including consumers over-extended on credit, firms responsible for the financial engineering and those complicit by acceptance, including the Maestro himself.