Derivatives Market Surpasses Total Global Wealth

From web.worldbank.org, it is possible to obtain estimates of the global total wealth. In 2000, there were approximately 6,070,581,000 persons on earth, according to Wikipedia. The World Bank estimates that each person contributes, on average, US$16,000 in produced capital and US$5,000 in natural capital. Natural capital consists of things like natural resources such as oil and other mineral deposits, whereas produced capital consists of things like goods manufactured for sale.

Thus, in 2000, the total wealth of planet earth is estimated to be US$127,482,201,000,000 -- or $127 trillion US dollars for short. This figure would need to be adjusted upwards now to account for the falling value of the US dollar, but you get the point. It's a really big number.

Unfortunately, it's not big enough to cover all of the financial bets being made in the derivatives market. In July 2008, the Bank of International Settlements (BIS; the only organization that tracks the derivatives market) reported that there were US$548 trillion dollars in outstanding derivatives on the listed market. BIS estimated that US$596 trillion dollars in outstanding derivatives is being traded over-the-counter, but this estimate is "iffier" since the OTC market is not actively tracked. For more information, you can visit jutiagroup.com or bloomberg.com.

If we take both figures as accurate, then US$1.14 quadrillion dollars in outstanding derivatives are in existence. That's over 1000 trillion US dollars, far larger than the total wealth of the entire planet. If even 10% of these risky derivatives tank, the total losses could exceed the wealth of our planet.

This is a bit doomsday-ish, because the face value of the derivatives represent losses in the extreme case of total meltdown. The derivatives themselves trade for $11 trillion - $15 trillion on the market. But the trade value is still 10% of the total wealth of our planet, and would have a cascading / ripple effect on the global economy if even 25% of them were to "go bad".

This is why Warren Buffett, in his 2002 letter to Berkshire Hathaway investors, said "...derivatives are financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal."

We have only begun to see how much pain and suffering can be inflicted on the global economy by too-smart financial engineers.