How the Monos May Give the Economy Mono
Most Americans don’t know the difference between "monoline" and "mononucleosis."
Suddenly we’re told the fate of capitalism rests on saving teetering monoline bond insurers from losing their AAA credit ratings. Today I report on how this all relates to you.
How They Make Money
The bond insurers protect payments to bondholders for things like a city’s municipal bond to build a school, or a corporate bond backed by mortgages. They give these bonds the insurers’ own AAA rating, even if the actual bond itself is worth, say, a single A. The difference between AAA and A is worth something, so the bond insurer charges issuers a portion of what that "spread" is worth. That’s how it makes money.
Most of the bonds that insurers back are municipal bonds, which almost never ever default, so it’s free money.
But the insurers wanted to make better money. So they began insuring corporate bonds backed by subprime mortgages--often charging higher premiums--assuming these, too, would almost never default. Now some of those bonds are looking shaky, since some of the mortgages aren’t being paid, so the bond insurer has to cover those losses.
Now, the truth is, the insurers haven’t actually had to pay that much in claims. The problem is, they’re having to set aside billions of dollars JUST IN CASE a lot of claims come in. That means they don’t have as much cash, and when you’re an insurer, you only get a AAA rating if you have plenty of cash.
So now these monoline insurers are being threatened with the WORST THING THAT COULD HAPPEN: they lose their fantastic credit rating.