The Vig

The vigorish, usually shortened to vig, is the interest payable on a longstanding financial instrument best described as an informal loan. The etymology is apparently derived from the Yiddish slang выигрыш (vyigrysh), of Russian origin. The word means profit, or winnings, and in essence that’s what it almost always is.

In the days when banks were prudent about who they lent money to, a bad risk had an equivalent credit rating, and often needed to seek funding elsewhere. Additionally, if the destination of the funds was, let’s say, a little murky, the bank manager might be understandably reticent to lend.

Since those days, when lending to individuals and businesses was the core of banking on main street, and what everyone understood to be the role of banks, things went largely haywire, as insurance companies became banks, banks became brokerage houses, and brokerage houses became well… rocket scientists from outer space. Wall St. quants came up with ever more complex non-linearities of finance, understood by no one except themselves, and then only partly, much like a top heart surgeon might be less certain about effects of his work on another area of medicine, such as the human endocrine system.

Global finance has two very interesting properties: the first is non-linerarity, much like the butterfly’s wings that may flap in China and cause a storm in Brazil, the classic imagery of chaos theory put forward by Ed Lorenz. Minor changes, major consequences. The Brazilian storm affects major weather patterns in the Intertropical Convergence Zone and causes an airliner to fall, killing a Chinese entomologist on his way to Rio de Janeiro where he was due to deliver a conference on a new species of butterfly.

The second property is feedback, as the storm triggers other inbalances in the hydrological cycle, including a drought in Western China leading to a collapse in the lepidopteran population. The storm killed the butterfly that caused it.

Informal loans, or loansharking, are based on sound banking principles, reflecting an inbuilt system of credit rating. Care is taken with what are nowadays known as ninjas, i.e. no income, no job, no assets. Pretty much what the banks were lending to over the mortgage crisis. Sexy(ish) buzzwords like ninja have been around for years, remember the famous yuppie from the eighties? I speculated at the time that in Portugal they would naturally be puppies. In Germany, of course guppies.

The vig is payable weekly, which is another very sensible choice. It keeps the lender firmly on top of events, and makes it plain that the client’s focus must be on servicing debt. But it has another built in quality, a mathematical property called integration.

If you leave ten grand in a bank deposit account, earning you five per cent a year, you would expect to get back five hundred bucks in interest, right?

Wrong, you should be getting exactly $512.71. Not a big difference, but as Winston Churchill bitterly complained about failing math exams, you can’t be almost right in math: either right or wrong. This simple fact also explains much of what exploded in the financial world in recent years. Wrong does not mean nearly right, when there’s a little to much salt ot not enough flour in the pancake you’re eating, but it’s still ok. It can often mean falling off the cliff wrong.

Why is there a thirteen dollar difference? It depends on how frequently you calculate, and adding all that up is called integration. If you have an informal loan, you might be paying the loanshark two points a week. Now that’s an attractive interest rate, roughly 104% a year.  Now the same math as before gives slightly different results: calculated on a yearly basis, those same ten grand, earning money out on the street, would return $10,400.00. But the real vig is $18,292.17, around eight grand more. That’s 80% of the principal.

Turns out that if you calculate on a weekly basis, you only fall short about 300 bucks of the real figure. Calculating monthly you’re over a grand short. So the weekly payments have another sound financial reason behind them.

Big debates are going on in Europe about the future of the euro, and the Greek loan defaults. As many have pointed out, Europe is much more than its finances. Iceland went bankrupt a couple of years ago, and no one seriously suggests that it will end as a nation. Most certainly not the Icelanders. Likewise the Greeks. People there know that they have a long and proud history, with darker periods of invasion and occupation, some of them lasting many years. That never stopped Greece staying Greek, never destroyed their identity, or fostered any doubt that the nation would survive.

Portugal has the longest established borders in Europe, and has survived the inroads of the Romans, Moors (kicked out in the XIIIth century), Spain, and Napoleon’s France. The rating agencies, which missed any whisper of the global financial crisis, and were left totally unaccountable for the slip, are busy passing judgement on nations such as Greece, Spain, or Portugal. Time will be the great leveller, corporations come and go, rather quicker than nations. The Chinese are experts at casting the net of time over the little fish. When Deng Xiao Ping was asked by a western reporter to highlight the main outcomes of the French revolution, he thought for an instant and replied: “Too early to tell.”

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