The Biggest Cause of the Financial Crisis

A few weeks ago, we set out to determine who deserved the most blame for this financial mess we're in ... March Madness style. Sixteen contenders competed in our blame bracket. Now, only one remains to claim the agony of victory.

Based on your voting, you blame the repealers of the Glass-Steagall act (skillfully advocated by Foolish colleague Christopher Barker) more than any other culprit.

The Glass-Steagall Act required the separation of commercial and investment banks. After it was repealed, one-stop-shops such as Citigroup (NYSE: C  ) , JPMorgan Chase (NYSE: JPM  ) , and Bank of America (NYSE: BAC  ) were allowed to supplement their regular deposit and lending businesses with all the bells and whistles of Wall Street -- helping to lead them into too-big-to-fail territory.

There could only be one winner, but the close voting indicates that you spread the guilt among at least 14 of our 16 candidates. Basically, everyone in our bracket got some blame love except Adam Smith and Kate Hudson, who share honors as the biggest blowouts of the first round. You refused to blame Adam Smith for the perversions of his free-market principles, and you refused to blame Kate Hudson's romantic-comedy misses for our financial drama. (We would have been worried if you had.)  

It was fun to narrow the field down to one culprit, but let's see how all 14 intertwine via one too-big-to-fail sentence:

Lax regulation by Congress (e.g., repealing Glass-Steagall), the SEC (e.g., allowing investment bank leverage as high as 40-to-1, and failing to catch Bernie Madoff sooner), and the Greenspan/Bernanke dynamic duo (e.g., excessively low interest rates), assisted by subprime guarantees by Fannie Mae (NYSE: FNM  ) and Freddie Mac, along with bogus debt assessments by the ratings agencies (primarily Moody's (NYSE: MCO), S&P (part of McGraw-Hill (NYSE: MHP)), and Fitch), and a blind eye turned by the media enabled Wall Street (encompassing everyone from Angelo Mozilo's Countrywide to Kerry Killinger's Washington Mutual to Hank Paulson's Goldman Sachs (NYSE: GS  ) ) to use excessive leverage and incomprehensible derivative instruments, blessed by geeks bearing formulas, to sustain too-good-to-be-true mortgage deals, which were then swallowed up by a bubble-crazed Main Street.

Whew! I count 125 words -- and that's without bringing Kate Hudson into it. Let's hope that next year, I can write an equally long sentence assessing who deserves the credit for a great financial recovery plan. Fingers crossed.

More Foolishness:

Anand Chokkavelu owns long-held shares of Citigroup. Moody’s and The McGraw-Hill Companies are Motley Fool Inside Value selections. Moody’s is a Motley Fool Stock Advisor selection.The Fool has a disclosure policy.


Read/Post Comments (4) | Recommend This Article (37)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On April 13, 2009, at 4:28 PM, dsg1957 wrote:

    I am disappointed in the "Fools' poor analytics. None of the major failures - Bear Stearns, Lehman, CountryWide, WaMu, IndyMac - took advantage of the repeal of Glass-Steagall to bring 'traditional banking' and investment banking under one roof. This crisis is almost exclusively a housing/mortgage market meltdown with at best indirect ties to the changes permitted under Glass-Steagall repeal. If we diagnose the problem incorrectly, we will put our faith in the wrong solutions.

    If I'm wrong, will someone please explain how the repeal of Glass-Stetagall restrictions contributed to the above failures, or was even a signficant player in the housing/mortgage market meltdown...... I'm willing to be convinced.

  • Report this Comment On April 14, 2009, at 7:36 AM, brwn8484 wrote:

    I agree with you, This act may have contributed but was in no way a primary cause of the economic crisis. The first and foremost cause was due to a new investment device called the CDO. This little horror (along with criminal action by investment ratings agencies) combined with a lack of surplus liquidity in insurance covering these CDO's led to a collapse of the entire financial system. First, CDO's were rated as Prime. Only problem is ... all these prime "CDO's" were really junk. And there was inadequate insurance to cover foreclosures on these junk CDO's. AIG bergan insuring these little horrors with little to no capital. When the price of housing began to collapse the whole system just imploded due to greed, criminal behavior and a lack of common sense... shared evenly between our politicians and corporate fat cats and of course the overly generous politicians handing out mortgages like drunken sailors.

  • Report this Comment On April 15, 2009, at 7:53 AM, jwilleke wrote:

    I also agree.

    There was a demand for sub-prime mortgages and the market filled the demand. Perhaps the methods used, were in hind-site not the best. The leverage ration of each of the firms mentioned by dsg1957's comment increased from 2003-2007 and as astute investors, we would surely know that these leverage ration increases are a direct implication of risk exposure.

    A much more insightful analysis was given in President Bush's Address to the Nation on September 24, 2008. References and more insight can be found at: http://en.wikipedia.org/wiki/Subprime_crisis_background_info....

    However, not being one that wants to look at the past, I am much more afraid that the cure for the crisis is going to be much worse than the the original crisis.

  • Report this Comment On October 23, 2011, at 5:27 AM, valespa wrote:

    The domino effect!

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