It's Like This

Lately I’ve been reading about the financial crisis with the vain hope of trying to understand just a little bit about what went on and what went wrong. My conclusion is that two words can really sum up what happened: recklessness and leveraging. In an attempt to relate this debacle to the real world of ordinary folks I’ve come up with a couple of analogies:

Recklessness

Say you work for a small company and the entire future of that business rests on getting an important document across town, your boss gives you the document along with twenty bucks and says “get this to our client in one hour.” Now you have three options: do it yourself, hire a reputable currier, or hire a will work for food guy off the street.

You decide to go for latter of the three choices and pay a homeless guy five bucks and entrust him with the document, and to make matters worse you don’t even check to see if he has a vehicle with which to transport himself across town – you just believe him when he says he can do the job. You then go off to a restaurant and spend the remaining fifteen bucks on a ham sandwich and a beer all the while patting yourself on the back on how smart your decision was. An hour later you get back to the office to find out that the document wasn’t delivered, and that your company lost the contract and is consequently going out of business.

Now many right wing columnists – Charles Krauthammer for example – would argue that the responsibility for the demise of your company rests squarely on the shoulders of the homeless guy. I on the other hand say it’s your fault: you made a reckless decision with the prospect of making big rewards (i.e. fifteen bucks and a relaxing lunch), so take your lumps.

Leverage

Leveraging is basically an attempt to maximize return on a bet, so gambling is an natural analogy. Say you have $100 and you want to bet on a football game. The odds are 2:1 and the prospect of winning $200 doesn’t seem appealing so you bet $1000. You win, now you have $2100. You have a party and blow $1100, now you have $1000. Along comes another 2:1 bet, you’re feeling lucky so you bet $10,000. Yea you win again, now you have $21,000. You need to celebrate so you buy an $11,000 car get drunk and wreck it, you have no insurance, and so you’re out the value of the car, now you have $10,000. Well you know where to get more money, so you find another 2:1 sure thing and bet $100,000. Oops your tip wasn’t any good and now you owe the full $100,000, which means you’re short $90,000.

Now you’re in deep trouble because the bookie is going to fit you for some lead shoes, so you go to your father-in-law and demand $90,000. Now obviously your father-in-law doesn’t want to give you the money but you point out that he’s getting off cheap for $90,000 because if you end up at the bottom of the river he’s going to have to support his daughter and his grandkids, and by the time you count in college he’s going to be in for much more than $90,000. Now your father-in-law isn’t a rich guy, but he sees the logic in your argument so he gets a loan and bails you out.

You would think that the father-in-law wouldn’t just give you the money, but would instead insist on some conditions, namely that you stop gambling what you can’t afford to lose. I think it’s safe to say that there are only 41 people in the country who wouldn’t insist on some conditions when giving out the $90,000, unfortunaely all 41 of those folks ended up as United States Senators.