Tail Risk Killers: How Math, Indeterminacy, and Hubris Distort Markets

CHAPTER 18Haircuts at the Core of Capitalism

Over-the-counter (OTC) derivative markets depend on financing, just like everything else because in this world there are precious few things actually owned. Most things contain a fraction of ownership and a chunk of borrowed capital that entitles a holder to its use. This relationship between credit and use rights is capitalism: There is no other way to view it. (So when you see banks being told to write off principal on underwater mortgages by regulators, know that capitalism at its essence is twisted into something grotesque.)

The same mechanics that apply to home mortgages—down payments, fixed repayment over a term, and canceling of use agreements through foreclosure—are straightforward analogues ...