Posted by: mutantpoodle | September 17, 2008

Here’s how

Kevin Drum asks the following sensible question:

Has anyone figured out yet how America’s financial giants all managed to misprice the risk of the subprime mortgage market so spectacularly? Yes, I know bankers have been doing this forever. Centuries of experience tell us that they have the impulse control of five-year-olds. And yes, the rating agencies screwed up in a big (and possibly fraudulent) way. That certainly helped things along.

Still: it’s not as if the bubbly nature of the U.S. housing market was a secret or something. It’s been a hot topic of conversation for years. Everyone knew that there was at least a decent chance that the bubble would burst at some point. Even if you were an optimist, you’d concede the possibility.

As a refugee from corporate America, I can only guess that the incentives to those making the deals were to make deals, and that overrode any queasiness about the risk involved.

But that’s not all. I don’t think anyone could take their minds to a place where their specific deal could end up precipitating a 1929-like crisis in the financial markets. (As I write this, the Dow is at 10,710 up 123, or 1.2% from 10,587 at the start of the Bush Administration.) I used to run financial models for films, and if you were analyzing a Will Smith summer blockbuster, you simply never considered assuming a performance below about $50 million of Domestic Box Office, because it just couldn’t ever happen.

After Apollo 1 burned up during a pre-launch test, killing all three astronauts on board, Frank Borman was asked what caused the fire. His response? “A failure of imagination.” So my answer to Kevin Drum – not, by a long shot, meaning to let anyone off the hook – is that when you combine financial incentives that make you want to ignore a worst-case scenario that’s already nearly impossible to fathom, you wind up where we are today.

Above is yesterday’s Obama speech in Colorado on all this.

P.S. Just because it’s on point, here’s another Borman quote: Capitalism without bankruptcy is like Christianity without hell.


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