The Crisis in 250 Words or Less
Forget the long-winded explanations. Here it is in a nutshell, as concisely explained as I have heard it, from one of the absolute smartest guys on Wall Street or any street. Original link here.
“Those loans were packaged into CDOs rated AAA, which led the investment-banking firms [buying them] to do little to no due diligence, and the securities were distributed throughout the world, where they started defaulting.
“When they started defaulting, out of bad luck or bad judgment, we implemented fair value accounting….You had wildly different marks for this kind of security, which led to massive write-offs by the commercial banking and investment-banking system.
“In the face of those losses…you needed to raise new equity…which came from sovereign-wealth funds in part, which then caused political resistance to sovereign-wealth funds, who predictably have withdrawn from putting money into the system….It seemed pretty obvious that would happen. We now find ourselves with a liquidity crisis where fundamentally the cost of money for financial intermediaries [such as investment banks] is significantly in excess of their cost of lending it. So several institutions found themselves in a structurally impossible position. We had a series of bankruptcies, whether Bear Stearns or Lehman, or forced sales like Merrill. Goldman reverted to a banking charter for a lower cost of funds, which today is still not low enough for the business.
“So that’s the story of how we got there.”
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