If anyone is still wanting a simple guide to the immediate cause of the problems in the world financial system, the ten minute video here explains it very well indeed. It’s part of a guy’s thesis in Media Design. Usability and visualization people, take particular note :-)
The long-term cause, of course, is the fact that the system is debt-driven.
The Crisis of Credit Visualized
I saw this on Gerv’s blog today and thought it was really good:
http://crisisofcredit.com
A 10 minute video that explains the credit crisis and how we got in this situation.
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That’s an excellent video. Unfortunately, it doesn’t mention the *other* cause for the crisis: That investment banks were under pressure by the government (Fanny & Freddie) and “community organizers” to take sub-prime loans.
http://www.youtube.com/watch?v=_MGT_cSi7Rs
http://www.bloomberg.com/apps/news?pid=20601039&refer=columnist_hassett&sid=aSKSoiNbnQY0
That this is largely the result of sub-prime lending is incorrect. Loans to less than ideal borrowers can be made, at a profit, if the risk is priced in correctly.
The problem isn’t debt, or debt owed by poor people, it’s debt that no-one understands anymore. Once the debt has been moved around and sliced up, it’s hard to get a grip on what it’s actually worth. Add to that the new ability to move chunks of it off coporate books, and you finally have a situation in which debt holders can claim their debts are worth $ARBITRARY. The people fail to pay, and it falls apart.
On the whole, I think that’s a pretty fair explanation. It doesn’t go into a lot of detail, but that’s by necessity.
People, at least around here, tend to get very emotional when they hear that there are foreclosures, because it means that (gasp) people are (gulp) losing their (dramatic pause) homes. Oh, no!
But almost all of the foreclosures we’re talking about here are sub-prime mortgages, which is the polite way to say people who fundamentally could not afford to buy a house in the first place, either because they just don’t have anywhere near enough income, or more often because they don’t have enough self-discipline and common sense to handle their money well. Typically they couldn’t save up enough for an even vaguely decent downpayment, which is always a bad sign. If they haven’t been able to scrape together a downpayment, it either means they don’t have the income to support the mortgage, or else it means they don’t have the fiscal discipline to prioritize their spending and put money toward the mortgage. (Or they’re fresh out of school and don’t have the patience to wait to buy a home until they can afford to do so.)
So anyway, now these people who can’t afford to buy a home are back where they started, which is where they can realistically afford to be, sharing rent with family or friends. And that’s not fundamentally a bad thing. It’s what I do myself, at least for the time being. It keeps expenses down. (I am also saving up, potentially toward a mortgage downpayment, although I’m also the sort of nerd who might just continue saving up and eventually pay cash for a house when I’m retirement age, thereby avoiding all those interest payments.)
The main reason that the sub-prime foreclosures caused any real trouble is not because people lost their homes (that in most cases they couldn’t afford to buy in the first place), but because, as the video tries to explain, funds were invested in sub-prime mortgages that really couldn’t tolerate that level of risk. This is where the video introduces the little lit-fuse bombs in the hands of the investors. They became so enamored of the idea that mortgages were a good investment, that they invested in mortgages that were NOT such a good investment. There are always going to be sub-prime mortgages, because there are always going to be some investors out there who are willing and able to take those higher risks (I believe the video mentions hedge funds, for instance), but the crisis came about because investors who *weren’t* willing and able to take those risks did so anyway. Oops.
Secondarily, housing prices had been significantly inflated while at the same time there was also a credit boom, and both bubbles deflated simultaneously, which amplifies the crunch, or at least makes it seem worse.