Those who visit the 60 Second Marketer website know that we’re an optimistic group. Just a few weeks ago, we did a 5-part series called “Good Economic News.” And see what happened? The stock market jumped up 600 points last week.

Several months ago, we wrote a post that was a layperson’s guide to how this whole economic mess came about. It’s a good, short read and covers everything you need to know about how we got in this mess in the first place.

Here it is again for those who missed it the first time:

In the 1990s, politicians, bankers and the housing industry concluded that by making mortgages easier to obtain, two things would happen: 1) more and more people would realize the American dream of owning their own home, and 2) the economy would be stimulated via a building boom fueled by all the mortgages that were being written.

Lenders realized that they could make tons of money by making “sub-prime” loans to people who didn’t meet the traditional credit requirements.  In order to protect themselves from loan defaults, financial institutions turned to companies like AIG for insurance.

But the insurance policies that AIG and others were writing weren’t regular policies.  They were a new kind of policy called a Credit Default Swap (CDS).  CDSs were unregulated, which means that there was very little oversight on these policies.  Worse still, the policies were off-balance-sheet, which means that they didn’t even show up on the traditional documents that investors and others use to review the health of a company.

According to Fortune Magazine, these policies were so easy to write that many of the transactions were completed via phone call or instant message.

Unfortunately, when homeowners started to default on their mortgages, that started a snowball effect.  Many financial institutions went to their insurance agencies to collect on the CDSs.  When too many of them came in, AIG and others were on the verge of defaulting, which meant that the government had to step in.

Because of all this, financial institutions have had their money tied up and have made borrowing money more and more difficult.  This means that large corporations like General Motors can’t take out a short-term loans to offset normal cash flow issues.

To Recap:
•    In the 1990s, politicians and lenders decided to ease the requirements for obtaining a mortgage;
•    This was done to provide everyone access to the American dream, and to help fuel a building boom;
•    These high-risk mortgages were insured by non-traditional insurance policies called CDSs;
•    When lenders turned to insurance companies to collect on their mortgage losses, it started a snowball effect;
•    The result is that lenders had to slow lending to such a glacial pace that the economy has suffered as a result.

This Grand Drama has yet to finish playing out, but that simplified overview should give you an idea of how this all came about.

The good news is that America will get through this, just like it has gotten through other challenges.  If we’re lucky, we may even be stronger as a result of all this difficult period.  But no matter what happens, one thing is for sure — America will never be the same again.

Saturday, March 14th, 2009, 10:09 am   |   General Business  |  RSS feed |  Respond  |  Trackback