Even as the Dow rallies to 10,000, those in the real economy wish they were hiding in a closet. Meanwhile Alan Greenspan, the father of our balloon economy, appears to reconsider leaving such a highly inflatable situation essentially unsupervised. Baltimore's free City Paper looks past the stock reporting of the NY Times to remind us of the real situation:

Greenspan Changes His Mind

Alan Greenspan has changed his mind, proving finally that he has one. ...

"If they're too big to fail, they're too big," Greenspan said today. "In 1911 we broke up Standard Oil--so what happened? The individual parts became more valuable than the whole. Maybe that's what we need to do."

...

By not reminding us just what a credit default swap is, (NY Times reporter) Labaton forfeits his power to reveal what actually happened (and is still happening). Understanding how credit default swaps worked (and then didn't) tells us much about why Citi is failing, why AIG failed (but was propped up), and even, after a fashion, why Greenspan is reversing his stance on "too big to fail."

...

A credit default swap is an insurance product. Say you lend me $100,000 to buy a house, and I agree to pay you back in six years, with a 6 percent interest payment for those years based on a 30-year amortization, and a final balloon payment. For you, this is the equivalent of putting your $100,000 in a CD for 6 years at 6 percent.

Except, I'm not FDIC-insured.

In fact, I'm a very bad risk when compared to an FDIC-insured bank. This is one reason a bank CD pays, like, 2 percent these days instead of 6 percent.

So you really want to get a 6 percent return, or near that, but you really, really want to get your hundred-large back in 2015, even if I'm--as is statistically probable--in jail by then. Or on the lam.

Here's where a CDS comes in. For a small fee, my friend Vinny--er, I mean, "AIG"--will guarantee the $100,000 payment, plus 6 percent interest. You pay AIG a little off the top, say, 1 percent, and still make out with a 5 percent effective annual yield, with NO RISK.

What could go wrong?

OK, so now we see the problem. No one was checking to see if those big banks and insurance companies who issued the CDS--the AIGs of the world--had the dough to pay up if a lot of people like me defaulted. Keeping funds in reserve for such contingencies is one of the first rules of both banking and insurance. But with derivatives, it was not done, mainly because derivatives of all kinds are unregulated.

These instruments were unregulated on the theory, of which Greenspan was the chief proponent, that regulation would stifle innovation and wealth creation among the sophisticated players who dealt in derivatives. Even in the run-up to disaster, there was little attention paid to the issue of counterparty risk--that is, the possibility that the big issuers of these proto insurance policies would themselves be bankrupted by them.

Now, the regulations being contemplated today in congress so far do little to mitigate the risk that AIG will continue to act like my pal Vinny, who is as reckless and shiftless as me.

The reason for that is the too big to fail doctrine--which is what allowed AIG, Citi, Goldman, Lehman, and a few others to provide insurance without the necessary capital requirements. Imagine what you might do in their place: Knowing that if you ever went bankrupt, your debts would all be paid in full by taxpayers, how careful would you be about what bets you covered? And remember, every time you guarantee someone payment, you get money.

When you're right, you get paid. When you're wrong, you still get paid, and someone else pays on your behalf.

Now, the derivatives regulation bill is not designed to deal with the too big to fail doctrine, which has been enshrined as policy under the past two administrations.

Greenspan took a lot of hits for his unexamined faith in the unfettered, crook-rigged markets that delivered such unspeakable prosperity to so few over the past three decades. Now that he's examining things, he may finally be worth listening to.

Or not. My question these days is how to get out of a system that funnels my money to the rich..