Episode #12 – The 2008 Financial Crisis

Personal Note: It’s been a while since I’ve made a post, and my apologies for that.  I currently have a lot on my plate in my non-CCC life (believe it or not, this is not my day job), but I’ve recently received some thoughtful emails concerned with if I have given up or not.  In the blogging world (or any project in digital media for that matter) it can be tough to stick with it, but the encouraging messages like the few I’ve received do make a difference, and for that, this project is revitalized and will be as great as ever.  And away we go…

This episode is a mammoth.  The 2008 financial crisis is one of the most significant moments in US economic history.  600-page books and hours-long debates have dedicated themselves to this topic, and Crash Course bravely tries to sum it all up in about 10 minutes.  That’s a tough task for anyone to do.

For the most part, the facts in the Crash Course video are 100% objectively correct.  The subjective element, however, comes in with the particular ways the hosts describe the events to imply that something is good or bad.  My other main objection to the video comes with what it chooses not to include, despite it being very, very important to what happened.

Mortgages and Lending Practices

It’s very difficult to simply explain what caused the financial crisis without sounding partisan, but I usually explain it this way: banks gave home loans to people who couldn’t pay them back in the future.

This is a good starting point.  Now, whether you want to argue that these loans were made because of capitalist greed or government-created incentives is where the partisan stuff starts coming in.  But let’s look at how Crash Course explains it:

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Investors were pretty desperate to buy more and more and more of these [mortgage-backed] securities so lenders did their best to help create more of them, but to create more of them, they needed more mortgages, so lenders loosened their standards and made loans to people with low income and poor credit.  You’ll hear these called subprime mortgages.

Eventually, some institutions even used what are called predatory lending practices to generate mortgages.  They made loans without verifying income and offered absurd adjustible-rate mortgages with payments people could afford at first, but it quickly ballooned beyond their means.

If you, as an intelligent Crash Course fan, thought critically about the implications of making bad loans, you would ask youself: Why weren’t lenders worried about not being paid back?  Would you, intelligent Crash Course fan, make a loan of $20 to a random person who approached you on the street if he said he would pay you back $40 in a week?  You probably wouldn’t, because he probably wouldn’t pay you back and you don’t want to lose $20.  So why would enourmous financial institutions in the business of giving mortgages make loans to untrustworthy borrowers?  Why would anyone willingly agree to something that will lose them money?  We’ll return to this in a bit.

Financial Products from Morgages

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After our Crash Course hosts briefly talk about the root of the problem (bad mortgages), they spend several minutes on different new financial products derived from mortgages.  These Mortgage-backed Securities include CDOs and Credit Default Swaps.  Crash Course’s explanations of these financial instruments are pretty accurate (from my knowledge), so I don’t think many people, regardless of their political persuasion or economic school of thought, would take issue to how they explained these.

Another accurate point by Crash Course is how leveraged these financial institutions were.  A lot of these firms were holding a large number of these bad financial products as safe assets, especially since the credit-rating agencies rated them the highest rating (AAA).

Credit Rating Agencies

Crash Course mentioned at the beginning of the video the role that the credit-rating agencies played:

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They gave a lot of these mortgage-backed securities AAA ratings–The best of the best.  And back when mortgages were only for borrowers with good credit, mortgage debt was a good investment.

So all these new financial products came onto the scene, and the credit-rating agencies were still rating them AAA, giving a guarantee of the high probability of them being paid back.  They were, of course, completely wrong on this.

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No one knew how bad the balance sheets at some of these financial instutions really were –these complicated, unregulated assets made it hard to tell.

With these two words, Crash Course has diagnosed the problem (