Market Crisis and the Desire for More Bacon

Due to the unforseen circumstances we will have to jump ahead in our discussion of the Economics of Bacon and address the current financial situation or crisis asmany are referring to it. In the context of The Economics of Bacon let's look at the determinants of the current freefall of the financial markets. Why? Why is this happening? I'm sure people talk about a lot of things that sometimes are hard to connect to each other. How does Joe Smith with bad credit have anything to do with the debacle at a giant like Bear Stearns or even Lehman Brothers? Well, lets begin. The conditionsin Wall Street were perfect for securitizing bad loans, meaning loans that had little or no chance of beng paid back. Securitization? This is the process in which a future receivable (due payment) is sold off to another party at a discount (i.e. "They owe me $1000 over 10 years give me $500 now and you make the difference once it is paid") This is what many Wall Street firms did, they bought off bad pools of loans, meaning lots and lots of bad loans, and securitized them. By securitizing them they created securities (bonds) which had these loans as collateral and then sold them in the open market. Investors would buy them with the expectation of receiving their investement back with interest. These have been some of the most secure investments over time in history. These is why individuals as well as corporation have flocked to them and added them to their portfolios.

But there was a catch. Many of these loans were bad simply because their terms were conducive to default. Many subprime borrowers did not understand the terms of their mortgage or failed to adjust to a ballooning payment after a specific period of time, normally a number of years. Once the monthly payments go up people like Joe Smith find it hard to pay and are forced out of their homes. Their loans go into default and the security that was to receive the payment for that specific mortgage starts losing value. Now, since this loan had been securitized it is now owned by investors who were hoping to have a very safe investment in their portfolio. This can be multiplied by thousands, maybe even millions and we start to get a picture of the effects of the crisis. These bonds which now have toxic assets as collateral were held by millions of individuals as well as corporations, so now the toxicity had been essentially spread all throughout the economy and the effects are dire.