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Economic Chaos

I was reviewing the current economic situation with some people at work the other day and it was evident that two things were pretty clear to them: one is that we are in a big mess and two is that most people do not understand how we got into this mess.

Vanity Fair has a really good piece on the cause of the economic turmoil which you can read at length here.

My read of the major causes of the economic chaos from their article:

  • Real Estate: flawed U.S. government policy, or social engineering dogma, that every citizen should own a house
  • Securitized Debt: converting debt like mortgages, car loans and derivatives into securities which made it difficult, if not impossible, to assess the value of the loans
  • Subprime Mortgages: the securitization of mortgages made it possible to take on riskier loans such as subprime mortgages, as long as they were bundled with better risk loans. This strategy worked for as long as real estate prices kept rising and interest rates remained low.
  • Quantitative Analysis and Options: securitized debt was insured by swap options based on the irrational belief that everyone in the market would behave rationally
  • Cheap Money: China had high savings rates and that money was loaned to the U.S. where the money was then used to make bad loans

Don’t Worry, Be Happy

Some cheery news from George.

Money quotes:

The economy went into freefall and is still falling and we don”™t know where the bottom will be until we get there and there”™s no sign that we are anywhere near a bottom.

The scale of the problem is more than in the Great Depression because of the leverage involved. The ratio of debt to gross domestic product has increased from 160 percent in the 1920s to 350 percent last year, and is set to rise to 500 percent.

We”™re in a crisis, I think, that”™s really the most serious since the 1930s and is different from all the other crises we have experienced in our lifetime.