What's The Deal Dirk?

Student Q&A's with Dirk

Why did the financial crisis happen so quickly?

This question asked by Anonymous

The financial crisis that began at the end of 2007 spread throughout the world quickly in part because of modern finaincial instruments and lax regulations that allow banks and governments to borrow significant amounts. 

Consider two people with identical incomes.  The first person has amassed several thousand dollars in savings, but the second person has significant debts (home mortgage, car loan and student loans).  If these two people lose their jobs, the second, heavly leveraged person is the one who is in real financial danger, as he’ll default on his loans quickly.  In addition, the lost job of the second person spreads the difficulty to every bank he owes money to.

In 2007, many banks and financial institutions around the glob eresembled the second person in the example above.  The significant leverage caused the financil contagion to spread globally and quickly.

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