Forum Post: Banks are not the only ones to blame for the financial crisis. We all are. So stop the hating!

This post is a reaction to all the bank haters. I am not a banker, but I did get a mortgage, and I got a conservative one that I could afford. I was hurt by the housing bubble bursting, but I don't just blame banks. I blame all those who borrowed beyond their means and pushed housing prices up, and then defaulted, pushing house prices down again. I blame the banks for lending money to people who should not have received those loans.

Yes it is true that mortgage backed securities were are dominant cause of the financial crisis of 2008. And that many of these securities would not have existed without banks. However lets examine exactly what happend.

People wanted to borrow money to buy homes. They went to see banks. Banks lent them money. The same people then bought houses, which put pressure on house prices, causing them to rise. Due to property price increases, people felt they had made profits and wanted to borrow more money, to buy an even bigger house. This cycle continued until the bubble burst.

The bubble was inflated by several factors, firstly, bank lending requirements were too relaxed. They lent money to people who could not afford it comfortably. Secondly, people made 'paper profits' on rising house prices wanted to borrow more. So BOTH banks and borrowers are to blame for excessive credit creation and ultimately the housing price bubble. You may argue that banks should not have lent the money out, but people should be responsible for their own financial affairs too, and so they should only borrow what they can afford to borrow, leaving a conservative margin of error in case things go wrong. In the end, its people who sign on the dotted line that they want to borrow the money. They have the ultimate responsibility. So I don't just blame banks for failed lending practices, I blame people for demanding too much credit and living beyond their means.

So why did this have such disasterous outcomes for the economy? It turns out banks repackaged the mortgages into securities which were then sold to investors and other banks. The result was that many investor's were holding on to these securities which were inextricably linked to the credit worthiness of the underlying mortgages. Once these mortgages started to fail because too many people defaulted, it started a cycle of foreclosures that lead to house price falls, which lead to more foreclosures. Ultimately, the value of the mortgage backed securities began to fall.

So why is it so bad that the mortgage backed securities fell in price? Well, it turns out many banks held them as assets. These assets are important because when a bank's liabilities (deposits in a bank are a liability from the bank's perspective as deposits represent a loan an individual makes to the bank) exceed its assets, then it is no longer solvent. And when a bank goes into insolvency, depositors are no longer guaranteed to get their money back.

This problem was exaccerbated by the fact that banks are interconnected by many transactions. When banks have temporary needs to borrow money from each other, they turn to other banks for cash. But if there are questions about a bank's liquidity, then other banks may not want to lend to it. This can hasten the bank's insolvency. Ultimately this cycle of mistrust about insolvency is toxic to the depositors because an insolvent bank means depositors lose their money.

So I believe bailing out the banks made sense. We had to do it to stop a devastating cycle of insolvency that would have hurt ordinary citizens who use banks to deposit money. Who paid for it? Tax payers did. But who caused it? People who borrowed lots of money to buy houses they couldn't afford. Most of these people are also tax payers.

So to al you bank haters, think about what caused the financial crisis in the first place. Ordinary people, wanting to borrow to much. Also think about all the times you use a bank, to receive cash, to pay for things, to get a credit card, to get a home loan. Banks are so central to modern life, lets stop hating them, and instead regulate them better so that they don't relax their lending practices. But ultimately, we are bank customers have to also own the damage we caused. Ordinary people asked to borrow more money than they could afford, and that is the underlying cause.