If I understand the gist of your argument, you are suggesting that financial innovation increased the supply of credit while the demand for home mortgages remained constant. As such, the price of credit decreased which, in turn, meant more people, even those unable to pay, took on mortgages.
Although there is an element of truth in this narrative -- assuming I rendered it correctly -- I think it overlooks that the bubble was developing long before any of the large Wall Street banks started getting involved with securitizing home mortgages. There would have been a housing bubble with or without financial innovation. A very good, one that I would recommend, describing the building of the bubble can be found here:
http://************/3w7dbja. Although the article is interesting and tackles a number of different issues from a number of different academic fields, the description of the housing bubble proper is from 1236-1266.
Additionally, I think you're characterization of the bank's motivations for entering into the securitization game needs a slight adjustment. Especially where the combined commercial/investment banks were concerned, people inside the banks viewed the innovations as a means to more effectively manage the risk sitting on their balance sheet. As I mentioned earlier, the banks that failed or came close to it, were in such a dire position because they had held onto parts of their products in part because they thought it was a worthwhile asset to hold (and they weren't necessarily wrong as AIG, for example, hardly had to actually payout on hardly any of the CDS contracts to which they agreed indicating that the super senior notes didn't actually stop paying out which is in accord with the theory behind securitization). As the value of the assets declined due to market irrationality -- as mentioned in the paper to which I linked -- the banks couldn't use it as collateral in the repo markets which effectively made them insolvent. The banks were definitely driven by a desire to increase profits. I think also, however, they saw the process as a means to extend more credit -- especially to groups that had traditionally been shut out of the credit markets -- while not significantly increasing their risk portfolio.
The forum won't allow a direct link to the site you offer for reasons I don't know. say "XYZ dot com" in addition so it can be followed.
It wasn't the price of credit that declined, but rather the ease of obtaining it increased well beyond any sort of rational limit, and was often offered at deceptive terms. Mortgages were marketed like furniture loans- "One year no interest!" If you haven't paid the balance before the end of a year, the terms of the contract become onerous indeed. People can survive that on relatively small amounts of money, not on amounts that approached 10X their annual income at the height of the bubble. The hook was "You'll be able to refinance or sell at a huge profit at the end of your short term introductory rate ARM or your negative amortization loan period". When the bubble collapsed into negative equity, that became impossible, particularly when lenders tightened up their lending standards sharply at the same time...
What bankers called innovation was really something else entirely- technical rationalization.
http://web.archive.org/web/20010726030451/http://www.indymedia.org/print.php3?article_id=3159
http://www.wired.com/techbiz/it/magazine/17-03/wp_quant?currentPage=all
In other words, they found a way to justify what they wanted to do based on mathematical models, and what they wanted was to make more money. The rather sound idea that there's no money to be made lending to people who can't pay was cast aside by quantifying risk into a mathematical abstraction.
Towards the end of the run, banks were attempting to securitize mortgages of such poor quality that the recipients didn't even make the first payment. They had an enormous number of mortgages in the works, ones they'd scraped the bottom of the barrel in working with mortgage companies to create. And they got caught holding them when investors slammed the securitization pipeline shut. That happened because extant securities turned out to be a lot riskier than investors had believed or bankers had represented them to be.
What you describe as the market turning irrational was exactly the opposite- it was an epiphany, a sudden realization that things weren't as they had seemed to be.
http://www.thenewatlantis.com/publications/the-financial-crisis-and-the-scientific-mindset
I disagree with the author's conclusion, that it all needs to be allowed to fall down, and rather suggest that we need to return to the principles of New Deal banking that prevented such from happening in the fist place.
If I understand the gist of your argument, you are suggesting that financial innovation increased the supply of credit while the demand for home mortgages remained constant. As such, the price of credit decreased which, in turn, meant more people, even those unable to pay, took on mortgages.
Although there is an element of truth in this narrative -- assuming I rendered it correctly -- I think it overlooks that the bubble was developing long before any of the large Wall Street banks started getting involved with securitizing home mortgages. There would have been a housing bubble with or without financial innovation. A very good, one that I would recommend, describing the building of the bubble can be found here:
http://************/3w7dbja. Although the article is interesting and tackles a number of different issues from a number of different academic fields, the description of the housing bubble proper is from 1236-1266.
Additionally, I think you're characterization of the bank's motivations for entering into the securitization game needs a slight adjustment. Especially where the combined commercial/investment banks were concerned, people inside the banks viewed the innovations as a means to more effectively manage the risk sitting on their balance sheet. As I mentioned earlier, the banks that failed or came close to it, were in such a dire position because they had held onto parts of their products in part because they thought it was a worthwhile asset to hold (and they weren't necessarily wrong as AIG, for example, hardly had to actually payout on hardly any of the CDS contracts to which they agreed indicating that the super senior notes didn't actually stop paying out which is in accord with the theory behind securitization). As the value of the assets declined due to market irrationality -- as mentioned in the paper to which I linked -- the banks couldn't use it as collateral in the repo markets which effectively made them insolvent. The banks were definitely driven by a desire to increase profits. I think also, however, they saw the process as a means to extend more credit -- especially to groups that had traditionally been shut out of the credit markets -- while not significantly increasing their risk portfolio.
The forum won't allow a direct link to the site you offer for reasons I don't know. say "XYZ dot com" in addition so it can be followed.
It wasn't the price of credit that declined, but rather the ease of obtaining it increased well beyond any sort of rational limit, and was often offered at deceptive terms. Mortgages were marketed like furniture loans- "One year no interest!" If you haven't paid the balance before the end of a year, the terms of the contract become onerous indeed. People can survive that on relatively small amounts of money, not on amounts that approached 10X their annual income at the height of the bubble. The hook was "You'll be able to refinance or sell at a huge profit at the end of your short term introductory rate ARM or your negative amortization loan period". When the bubble collapsed into negative equity, that became impossible, particularly when lenders tightened up their lending standards sharply at the same time...
What bankers called innovation was really something else entirely- technical rationalization.
http://web.archive.org/web/20010726030451/http://www.indymedia.org/print.php3?article_id=3159
http://www.wired.com/techbiz/it/magazine/17-03/wp_quant?currentPage=all
In other words, they found a way to justify what they wanted to do based on mathematical models, and what they wanted was to make more money. The rather sound idea that there's no money to be made lending to people who can't pay was cast aside by quantifying risk into a mathematical abstraction.
Towards the end of the run, banks were attempting to securitize mortgages of such poor quality that the recipients didn't even make the first payment. They had an enormous number of mortgages in the works, ones they'd scraped the bottom of the barrel in working with mortgage companies to create. And they got caught holding them when investors slammed the securitization pipeline shut. That happened because extant securities turned out to be a lot riskier than investors had believed or bankers had represented them to be.
What you describe as the market turning irrational was exactly the opposite- it was an epiphany, a sudden realization that things weren't as they had seemed to be.
http://www.thenewatlantis.com/publications/the-financial-crisis-and-the-scientific-mindset
I disagree with the author's conclusion, that it all needs to be allowed to fall down, and rather suggest that we need to return to the principles of New Deal banking that prevented such from happening in the fist place.