Tag Archives: Magnetar

Burning and Looting

What caused the financial crisis?

Was the it the models, the expectations, correlated risks, non-transparency, dangerous financial innovation, or weak regulations?

It was probably all of the above, but recently it has become clear that the banks caused it as well.

While people have long observed that mismatched incentives, poor models, and lax regulation allowed and encouraged the banks to make mistakes, it has only recently become clear that some banks (+ hedge funds, etc) helped create the crisis by stimulating investment that fed the housing bubble so they could bet on it bursting.  Specifically, those who were betting on a housing bust enhanced the bubble by creating Collateralized debt obligations (CDOs) they wanted to bet against.  By continually creating and buying these CDOs they almost certainly enhanced the bubble, causing a bigger burst and made more money on the bust.  The extent to which this actually promoted the bubble has only recently become clear.

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