The markets are up this money, way up. Don't be fooled. There is lots of room for them to fall.

But on the current crisis: It has been in the making for two decades.

Here again is a wise and surprising piece of commentary, this one on the economic calamity which its author, Edward Jay Epstein, has in his distinctive droll and pessimistic way seen coming for several years. He reports below that the "fundamental flaw" of Wall Street and its financial system are the rating agencies. It wasn't actually his idea. It was Michael Milken who unveiled the fraud to him in a conversation in 1987.

I've been noting the criminal culpability of the rating agencies--Moody's (a public corporation), Standard & Poor's (which belongs to McGraw-Hill) and Fitch (which is private) for some time.

"Was Milken Right?"

When I interviewed Michael Milken in 1987, he immediately zeroed-in on what he identified as the "fundamental flaw" in Wall Street's financial system: its dependence on ratings services, such as Moody's and Standard & Poor's, to supply their equivalent of a seal-of-approval, a triple-A rating, meaning there is virtually no risk of default. Such a top rating allowed Wall Street to sell hundreds of billions of dollars of corporate bonds to insurance companies, pension plans, college endowments, and other institutions. Milken's scathing analysis went as follows: "What is a bank?" he asked rhetorically. "It is nothing more than a bunch of loans." " How safe are these loans?" he continued. "They are made mainly to three groups that may never repay them in a real economic crisis-- home owners, farmers and consumers of big ticket items." "What guarantees these loans?" "Very little since these banks usually have $100 in loans for every dollar of equity." "Yet," he went on, "their bonds get a triple-A ratings from the bond rating services." "This is crazy," Milken concluded, since rating services measure "the past not the future" risk. Soon afterwards, the financial establishment trounced on Milken (who went to prison), but not the rating services.

That was two decades ago. Since then the rating services have extended their top ratings to debt packages, such as Collateral Debt Obligations (CDOs) that included subprime mortgages and other questionable loans. Since they get much higher fees for rating complex debt pools than for plain vanilla corporate bonds, this expansion into CDOs has proved incredibly lucrative for them. Moody's, which is partly owned by Warren Buffet's Berkshire Hathaway, raked in over $3 billion in fees from 2002 until 2006 for providing these ratings. Standard & Poor's meanwhile escalated this suicidal race into the abyss in 2000 by extending their top ratings to piggy-backed CD0s, a practice, appropriately named, through which a financier simultaneously took out a second loan for the down payment on the first CDO. Other rating services followed suit, allowing debt pools to be leveraged over and over again, while maintaining the triple-A rating that made them appear to be as safe as a Treasury bond. The obvious conflict of interest here is that the rating services are not only paid by the companies who issue the very securities they rate, but these companies provide all the data upon on which they rely. SEC rules also make it all but impossible for anyone else to launch a new rating service. So once the rating services gave their imprimatur to the piggy-backed CDOs and other financial swill, wheelers dealers on Wall Street could leverage them to such a stratospheric extent that by late 2008 some 18 trillion dollars in marketable debt hung over what remained of the global financial markets, and sapped it of the crucial confidence necessary for it to function.

If only Milken's critique of the rating services had been taken more seriously in 1987, we might not now be staring into this expanding black hole.

Edward Jay Epstein