A basic reason for favoring regulation is that derivatives create a kind of mirage. They don’t extinguish risk, they simply transfer it to a different party—a counterparty, as the term goes. The ultimate outcome is millions of contracts and an endless, virtually unmapped, web of connections among financial institutions. That maze exists today, and so does the systemic threat it raises: that some major counterparty will go bust and drag down other institutions to which it is linked.

We came perilously close to such a chain reaction in the past 18 months, as both the economy and the financial system buckled in distress. Derivatives cannot be called the central villain in this drama. That dishonor belongs to some combination of bad management and a real estate world gone crazy. But derivatives elevated the stakes, as they seem constantly to do. Today, as the financial system goes about digging itself out of the muck of trouble, no one imagines that the risks of derivatives have diminished. That’s what the regulatory clamor is all about.

We did not get to this juncture without red flags flying. In a 1994 cover story by this writer, Fortune called derivatives, then relatively new on the scene, “The Risk That Won’t Go Away” (see

Not too long after that, Warren Buffett tagged derivatives with the name that follows them everywhere, “financial weapons of mass destruction.” But if this description was to enter the lexicon of finance, it was not to stop derivatives’ spread. Between 2000 and mid-2008 (the peak so far), the worldwide notional value of derivatives went from $95 trillion to $684 trillion, an annual growth rate of 30%. A new form of derivatives, credit default swaps, a sort of rich chocolate to the plain vanilla of interest-rate swaps, became the rage during this period. Initially these CDS allowed institutions to insure the creditworthiness of bonds they held, and next permitted speculators—controversially, to say the least—to pressure the prices of bonds and other fixed-income securities.