I’m no economic genius, but I keep hearing that this whole mess was brought on by the sub-prime home financing crisis. Something doesn’t add up.
How can it take 3.6 trillion to fix it? I don’t mean to quibble about a few dollars, but for 3.6 trillion you could give all 300 million people in the United States a 4 million dollar home. (Feel free to correct my math if I am wrong)
Instead we are giving all that money to the inept banks who have mismanaged their businesses and we will still have people sleeping on the streets, continued foreclosures, people with good credit having their credit card limits reduced and their interest rates raised.
There must be more here than meets the eye.
errrr...
$3.6T / 300MM = $12K per person < $4MM (by a lot!)
More than subprime mortgages, however, Alt-A mortgages are infected, as are some prime mortgages as equity values in homes go negative and people are less incentivized to pay back the loans, commercial real estate disasters, leveraged loans used to finance LBOs remain on bank balance sheets after they failed to find buyers, along with a host of other crap. The infection has been quite virulent.
The sub-prime home financing crisis is only the straw that broke the camel's back. This situation has been building up over thirty years. In the mid-1970's banks maintained a 5:1 ratio of debt to cash reserves. Over the last thirty years they let that ratio go up to 30:1. Now we are finding that they have been just as lax in their lending standards (even deadbeats could get credit). Well this means that banks have huge amounts of bad debt (rumor has it that its $5-$8 trillion dollars in the USA and $30-$50 Trillion globally)and very little cash reserves. The combo of a ridiculously large debt to cash reserve ratio and lots of bad debt has caused this crisis...and as the economy gets worse, the amount of the debt that is bad continues to grow.
Every finance entity bet the farm through derivatives and swaps. What are they? Either you don’t want to know, or Don’t ask. Nobody knows, (but it ain’t good.)
Consider this:
$11T-$14T in total US mortgage market - that’s subprime (less than $1.5T) plus Alt-A plus prime, entire mortgage market. Some estimates put the total securitized market (MBS / CDO) at $7T-$8T. Yet there was estimated $60+T of "insurance" (CDS) on it.
When there is more insurance on the "life" of the insured property or company, it is worth more "dead" than "alive" - and in this case it was worth much, much more. That's not an “insurance" anymore, that's a fuse underneath it that was waiting to be lit. In other words, there has been a lot of financial (and in election year, political) interest by CDS holders in the mortgage market becoming "dead" as fast as possible... market that has already been weakened by its government-induced structural problems involving CRA (Community Reinvestment Act) and GSEs (like Fannie and Fredddie) that were gobbling up mortgages without regard to the quality of loan. Housing bubble deflating slowly in just a few areas of the country was manageable enough, so not good enough to collect on.
CDS (Credit Default Swaps) had their origins in the AIG Financial Products division in mid-80s (created by 3 former Drexel Burnham Lambert colleagues - Howard Sosin, Randy Rackson and Barry Goldman), but found their way into broad market practice and marketed by almost everyone. JP Morgan, Wells Fargo and Bank of America stayed out of it, for the most part.
If you are interested, more details and links on this is at this thread :
http://www.freerepublic.com/focus/f-news/2160100/posts?page=24#24