There is no "collector", because there is no underlying marketable asset.
One pretty readable explanation is available at It's the Derivatives, Stupid! Ellen Brown – Web of Deceit September 18, 2008.
Credit Default Swaps (CDS's) are just bets between various banks and hedge funds. Like bets on sport games with your brother-in-law, they are entirely unregulated. If the counter-party (your brother-in-law, or JPMorgan Chase in the CDS case) doesn't or can't pay up, they are instantly worthless.
There is a tangled web of them, built up over just the last decade or so, that is now vastly larger than the banks and hedge funds doing the betting. If some outfit such as AIG, which has played heavily in this CDS game, defaulted on their bets, then basically every bank would be bankrupt overnight, and every hedge fund panic selling any securities they hold, causing a stock market crash greater than 1929 or 1987. And that (financially) bloody day might well be "the best day of the rest of our lives" ... that is, it might well be downhill from there.
A huge number of these CDS's are bets on Fannie and Freddie paper, so if those two went down, even if they weren't into CDS's themselves that much, the house of cards collapses. ... Like I said, they can't sell the bad debt to the collector. The bad debt would have no collector and zero value. It's not really debt, actually. Debt might an underlying collateral that can be attached.
This is more like fifty drunk and rowdy men going into the sports bar on Super Bowl Sunday, each one making massive (a hundred times more than the value of their life savings) bets on the outcome of the game, and each thinking they are safe, because they bet both sides of the game equally.
If just one man in that bar reneges, then a bar room brawl breaks out, and the bets collapse. That's no so bad in the bar; everyone takes another shot of whiskey, punches the man standing next to them, and walks out ... or is carried out.
But the banks in this fiasco are -required- by recently introduced law to mark down their assets to current market value, and they are required by long standing law to have balance sheets with sufficient reserves to cover their (highly, 30 or 50 to one in the case of the five big investment banks ... well now two big investment banks ... only Morgan Stanley and Goldman Sachs are left standing) leveraged loans. The center of the world's financial system, the creator of the U.S. Dollar (since 1913, when the consortium of private banks known as the Federal Reserve was granted a monopoly on creating our dollars) and the creator of the worlds standard currency go "poof".
... and Morgan Stanley is desperately shopping for a buyer, with reliable reports that their CEO has told other CEO's this last week that Morgan cannot survive independently.
That bar room brawl, that massive financial collapse, had already begun, early last week. It was visible on the stock screens, showing once in a lifetime shifts in short term Treasury rates (down to 0.03 %, off the peg of 2.00 %) and LIBOR (London interbank lending rate) jumping sky high, in the space of minutes.
Paulson and Bernanke were (are) applying the defillibrator to the American, and world's financial system, as it had started a massive coronary collapse.
The defillibrator is not the problem. That we had allowed our financial system to become the equivalent of the world's fattest man is the problem.
Even if we determine later that it was a defective defillibrator, causing serious long term damage to our health, it's still not the problem, this week.
This does not fix the problem of the hundreds of trillions of dollars of outstanding derivatives (CDS) outstanding. It only fixes (well, tries to fix) the primary market on which those CDS's are based, the U.S. mortgage market.
Here is Mish's comment:
The idea behind the above statement is to allow for a continual dumping ground such that there will always be $700 billion in toxic garbage held under this program. As soon as any asset can be unloaded by the Treasury at cost, another toxic loan is eligible to be assumed on the books of the Treasury. This process can last for as long as two years.
It's time to Weep For The Free Market (or rather what little free market the US had left).
At taxpayer expense, Bernanke and Paulson are willing to bail out their banking buddies at enormous expense to the average taxpayer of this country. Bernanke and Paulson should both should be fired. Instead Congressional sheep will baa yes to this bailout and Bush will baa yes when he signs it. It is a sickeningly sad that day for America that Congress will go along with this proposal that makes the US Taxpayer A Giant Dumpster For Illiquid Assets.
$700 billion will be wasted by this program and it is $700 billion the US does not have to waste. I ask that everyone vote against any congressman who votes for the passage of this bill.