When it comes to the financial “crisis” (I still don’t like using that word…it’s an invitation to deprivation) I’ve heard various explanations for what got us here, but most of them go something like this:

“Greed got us into this mess”, or, “Banks were way too leveraged so they could make a buck in the short term”, or, “lenders took advantage of borrowers who didn’t know any better and gave them more loan than they could afford”.

I have several questions in response: When did people all of the sudden become more greedy?  Can you give me a date?  Did greed suddenly increase in the mid 1990’s?  Were people in prior decades not greedy?  Is greed a new phenomenon?  When did banks all of the sudden decide to become overleveraged?  If they could have made all kinds of money being overleveraged before, why did they wait until the mid 1990’s?  Why weren’t banks pushing these risky loans long ago?

The obvious answer to all of these questions is the old adage, “there’s nothing new under the sun”.  Greed is not new, and people are no more greedy today than they’ve ever been.  Banks did not all of the sudden decide to overleverage and start pushing bad loans - to do so would be against their own (greedy) interest, as we now see with many collapsing.  If you want to make greed the culprit, you have to also make it the culprit for everything else that happens in the economy, since people are always greedy (or, if you prefer a less pejorative term, self-interested).  That means when wages rise, stocks grow, unemployment drops, gas prices go down and poverty shrinks you have to also blame greed.  Greed is ever-present, so it’s unfair to only blame it when things go bad but not when things go well.  Blaming greed is like blaming gravity.

These childish analysis cannot account for our current financial situation.  But what can?  Why would banks all of the sudden make overly risky loans?  If it wasn’t in their interest to do so before, why now?  Because the rules of the game changed.

I’ve blogged on it here before, and there is lots of great analysis elsewhere (look here and here), but the bottom line is Uncle Sam changed the rules of the game by mandating banks to take bigger risks, creating a “moral hazard” by implicitly or explicitly promising to bailout those who failed, and by sending false signals through the market via artificially low interest rates (which induce more lending than real economic productivity would warrant).  To summarize, banks and financial institutions behaved in a way counter to their own long-term interest because government made it beneficial and in some instances necessary to do so.