With the fall of the stock market, the collapse of the economy became clear. The real driving force behind it, however, was the failure and dropping confidence in the largest bond market of the world. Known as structured finance, it has led to a crisis which rivals the Great Depression, as well as brought about the demise of twenty plus banks and almost $3 trillion in government spending and guarantees.

Securitization is the biggest export for the US in the 2000s. What they are is the bundling of consumer loans sub prime mortgages. The US has the largest debt, having borrowed $27 trillion since 2001. That amount is nearly twice the gross national domestic product, which is $13.8 trillion. This sort of growth owes itself to overseas banks, which wanted a piece of the action it saw in US banks. With this demand, Wall Street gladly supplied the securities, leading to nearly a trillion dollars worth of bank losses, almost half of which was outside of the US. It was in Europe where a great deal of banks got hit. The amount of securitizations grew from 78 to 453 billion euros, which is over half a trillion in US dollars. Many of these banks lost a lot of money, from one bank in Germany losing $4.1 billion to Iceland, where the Prime Minister advised his citizens to switch from finance to fishing. Even in Japan, its third largest bank saw a $6 billion dollar loss.

Securitization is considered a system which operates in the shadows, powering many consumer debt vehicles, such as credit cards, car purchases and sub prime mortgages. This system leads to cheaper loans thanks to dividing the risk of default by pooling loans. As a result, bank profits went up and a debt culture became realized across the globe. In 2005, banks decided to put more into the system in order to boost profits. Through lending more through sub prime mortgages and by relying more and more on the US money market funds, investment banks brought about fatal consequences.

Traditional lending involved the bank loaning money it had on hand, receiving regular payments on the loan and turning a profit from the amount over the principle that the borrower pays. It was loosely around 1985 that a method was devised for lending without capital. Its general mechanics involved taking anything on a payment schedule and using that money to pay off the interest for bond holders. The biggest technique used in securitization was the utilization of a sort of shadow accounting. The bank could take bonds it did not sell and shift them to an off shore account in a trust, which removed the entry from the books and allowed the bank to lend more while still recording profits. As a result, the bank could sell some of its loans to investors and put the rest in a trust, and not have to hold any capital.

It was this system that led to the banks eventually trying to use sub prime mortgages to cover money that it owed, which led to the economic crash. The failure of the economy owes itself to a pen and paper trick devised to maximize bank profits.

Photo Credit: 1

Originally posted 2008-11-11 05:21:09. Republished by Old Post Promoter

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Banking, Debt, Personal Finance, economy, loans, stock market

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2000s, bank profits, bond market, car purchases, collapse, consumer debt, consumer loans, demise, dollar loss, driving force, fatal consequences, government spending, great depression, investment banks, money market funds, overseas banks, stock market, structured finance, sub prime mortgages, trillion