Another Piece to the Credit Puzzle

Credit default swaps or CDS’s apparently contributed to or some say caused the present financial crisis.  Invented by Wall Street in the 1990’s, these contracts made subprime mortgages saleable.  In essence, financial institutions that should have known better agreed to pay an investor if his investment went sour.  This “insurance” meant that it was unnecessary to perform much due diligence on these mortgage backed securities because, after all, the risk was covered by the credit default swap.  This meant bad mortgages could be funded and sold.  Over time more and more “subprime mortgages”(predatory loans, bad loans, etc) steadily flowed into the mortgage backed security markets because the CDS covered the risk.  When the housing bubble burst, the mortgage back securities went into default.  This triggered the CDS.  The payors of the CDS (AIG for example) didn’t have the money to pay.  The collapse then had a domino effect.  94% of American mortgages are not in default.  The best way to handle this crisis is to educate the American people as to how this happened and why.  People are fearful now (with good reason) but if the average American can understand what happened and why, the panic should subside.  Wall Street has long known that knowledge is power.  Insider trading is the unlawful use of information not known to the general public.  That shows the power of knowledge.  Accordingly, if our leaders and the media can present a balanced analysis of what went wrong and why, this knowledge will give us the power to (a) control the panic and (b) prevent similar mistakes in the future.

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