> The US government responded to the 2008 financial crisis with the Dodd-Frank Act of 2008 to protect everyone against the kind of speculation that caused that financial crisis.
Let's review the 2008 financial crisis.
The was a thing called a credit default swap. It's a type of insurance. If you make a loan, and the borrower fails to pay you back, the insurance pays you instead.
The insurance actuaries did the math on how much these should cost based on the historical rate at which homeowners paid back their loans. They also calculated that most of the claims would be offset by the ability to foreclose on the house, so they'd only have to pay to the extent that the homeowner owed more on the mortgage than the house was worth. That seemed pretty unlikely, right?
Enter moral hazard. If you're a bank buying credit default swaps, you don't care one bit whether the borrower can pay back the loan, so you issue loans to everybody. Banks issuing loans to people who can't afford them inflates a housing bubble.
The regulators who should have seen this and said "hey wait a minute" instead said "neat, they're promoting home ownership" and just let it happen.
Then when those borrowers, in fact, can't afford the loan payments, they default.
Around the same time, the insurance companies figure out that they fucked up real bad, so the price of credit default swaps goes way up and banks stop buying more of them. Which means they stop wanting to loan money to people who can't afford to pay back the loans, and the housing bubble pops. That puts the existing loans underwater, which would bankrupt the insurance companies, which would in turn bankrupt the banks.
Then the "solution" became to set interest rates to zero to reinflate the housing bubble, where they've been ever since, and we now have an even bigger housing bubble than we did in 2007.
The cause of this was not a fraud or a scam. It wasn't "buffers" or anything like that. It was incompetence. Nobody wants to admit that, because anyone could have asked the question, what does a credit default swap do to a bank's incentive to vet creditworthiness? But they didn't.
A good deal of US banking legislation came into being in response to various crises. Like the Federal Reserve Act in response to the Panic of 1907. It's pretty normal.
A lot of this legislation exists to provide buffers to protect people from all kinds of situations. That's why we have legislation and regulation.
> A good deal of US banking legislation came into being in response to various crises. Like the Federal Reserve Act in response to the Panic of 1907. It's pretty normal.
It's also the financial equivalent of invading Iraq in response to 9/11.
Let's review the 2008 financial crisis.
The was a thing called a credit default swap. It's a type of insurance. If you make a loan, and the borrower fails to pay you back, the insurance pays you instead.
The insurance actuaries did the math on how much these should cost based on the historical rate at which homeowners paid back their loans. They also calculated that most of the claims would be offset by the ability to foreclose on the house, so they'd only have to pay to the extent that the homeowner owed more on the mortgage than the house was worth. That seemed pretty unlikely, right?
Enter moral hazard. If you're a bank buying credit default swaps, you don't care one bit whether the borrower can pay back the loan, so you issue loans to everybody. Banks issuing loans to people who can't afford them inflates a housing bubble.
The regulators who should have seen this and said "hey wait a minute" instead said "neat, they're promoting home ownership" and just let it happen.
Then when those borrowers, in fact, can't afford the loan payments, they default.
Around the same time, the insurance companies figure out that they fucked up real bad, so the price of credit default swaps goes way up and banks stop buying more of them. Which means they stop wanting to loan money to people who can't afford to pay back the loans, and the housing bubble pops. That puts the existing loans underwater, which would bankrupt the insurance companies, which would in turn bankrupt the banks.
Then the "solution" became to set interest rates to zero to reinflate the housing bubble, where they've been ever since, and we now have an even bigger housing bubble than we did in 2007.
The cause of this was not a fraud or a scam. It wasn't "buffers" or anything like that. It was incompetence. Nobody wants to admit that, because anyone could have asked the question, what does a credit default swap do to a bank's incentive to vet creditworthiness? But they didn't.