The 2008 Crisis

In 2008, the global financial system came within days of complete collapse. ATMs were within hours of stopping dispensing cash in some countries. Governments around the world took emergency action on a scale never seen in peacetime.

Most people remember the result. Fewer understand the cause.

In the years before 2008, US banks had been issuing mortgages to almost anyone who applied — people with no income documentation, no deposit, and no realistic ability to repay. This was profitable because banks weren’t holding those mortgages. They were bundling them into complex financial products and selling them to investors around the world.

The logic was that housing prices always rise. If a borrower defaulted, the bank could repossess and sell the house for a profit. The system only made sense if prices kept climbing.

They stopped climbing in 2006. By 2007, defaults were rising. By 2008, the bundled mortgage products — held by banks, pension funds, and institutions worldwide — were revealed as nearly worthless. Lehman Brothers, one of the largest investment banks in the world, declared bankruptcy on a Monday morning.

Credit froze. Banks stopped lending to each other because nobody knew who was holding bad debt. The entire financial system — built on a foundation of borrowed money and optimistic assumptions — locked up.

The people who caused this were largely the ones who got rescued. The people who had nothing to do with it paid through job losses, housing crashes, and tax-funded bailouts.

Tomorrow: what too big to fail actually means — and which side of that line you’re on.

— The Daily Bit