Bank Drilling for Your Gold, photo by Wisconsin Department of Natural Resources via Flickr

Among the many issues that won’t be discussed in the coming elections is the burden on taxpayers and businesses created by interest rate swaps. It isn’t that the issue is a secret, all kinds of people write about it. Here’s Matt Taibbi writing in April 2010; and here’s a 2010 white paper from the SEIU showing the impact on several states and local governments. The problem is that interest rate swaps are at the confluence of bank power and governmental weakness. And, of course, the too big to fail banks suck a ton of money out of the real economy using swaps.

One source of information is the OCC’s Quarterly Report on Bank Trading and Derivatives Activities. According to the report for the fourth quarter of 2011, trading revenues from cash positions and derivatives at insured commercial banks were $25.8 billion, up by $3.3 billion over 2010. Bank holding company trading revenues were $51.8 billion, down from $61 billion in 2010.

Banks are notoriously close-mouthed about their swaps business, so when JPMorgan Chase provided some data on revenues, it was regarded as a surprise. The numbers are amazing: trading revenue at JPMorgan Chase was about $20.2 billion for 2011. Trading revenue from interest rate swaps was approximately $1.44 billion. But that’s not all the money they make on derivatives.

JPMorgan has a classification for its assets called Trading Assets:

Trading assets include debt and equity instruments owned by JPMorgan Chase (“long” positions) that are held for client market-making and client-driven activities, as well as for certain risk management activities, certain loans managed on a fair value basis and for which the Firm has elected the fair value option, and physical commodities inventories that are generally accounted for at the lower of cost or fair value.

2011 10-K, p. 198. It appears that the nominal value of the derivative trading assets is about $3.7 trillion, of which approximately 76% are interest rate swaps. P. 204. In addition, there are about $394 billion in debt and equity instruments on the asset side and $82 billion on the liability side of the balance sheet.

The net interest income from trading assets was $11.1 billion in 2011. P. 212. Let’s estimate net interest income on the debt and equity instruments by applying an average of 1% to the net figure of $312 billion, giving $3.12 billion. If that is reasonably close, we can estimate $7.98 billion in net interest income from derivatives. If the returns from interest rate swaps are about the same as other swaps, we could estimate the net interest income from interest rate swaps at about $6 billion.

Those billions flow in from governments and business that were trying to protect themselves from rising interest rates. Deficit hysterics have been saying that day would come soon, but it hasn’t. It hasn’t happened because the Federal Reserve is committed to keeping interest rates near zero in the hope that somehow it will translate into business activity and stimulate demand. The Fed says it will keep interest rates low into the foreseeable future.

We get a good idea of the scope of the problem from Great Britain, where the sale of interest rate swaps and more exotic swaps has become just another scandal. According to the Financial Services Authority, banks sold this garbage to 28,000 small and medium size businesses as part of regular loans. At least the FSA seems to have a tiny bit of concern for those businesses, and is providing a minimal level of help.

We don’t even do baby steps in the USA. We can’t. The conservatives of both parties won’t allow anything that might impede the destruction of the middle class. The Obama Administration will wring their hands, but won’t act. Bank regulators are thrilled to see their clients making money, and don’t really care how they do it. Courts will uphold swaps against all attacks, because the law assumes that everyone understands their contracts, even when they obviously don’t, and even when official government policy is driving the losses. And, of course, Congress gave the banks the gift of amendments to the Bankruptcy Code to protect their swap activities at the expense of other unsecured creditors.

Zero interest rates are hurting a lot of people, including retirees, savers, pension plans, and insurance companies, and even foundations. Now we see there is one more group, suckers on the wrong end of interest rate swaps. It’s another bailout, screwing everyone for the benefit of the banks.