Presenter: Ethan McCormac
Faculty Mentor: George Sheridan, Gerald Berk
Presentation Type: Oral
Primary Research Area: Social Science
Major: History, Political Science
In order to produce a complex financial meltdown caused by nuanced economic models replete with moral hazard, the United States and the rest of the world first had to build a complex financial system driven by nuanced economic models replete with moral hazard. What had caused the miscalculated risk-taking and undercapitalization at the core of the system? Part of the answer lies in the economic models adopted by policy makers and investment bankers and the actions they took licensed by the assumptions of these economic models. The result was a risk heavy, undercapitalized, financial system primed for crisis. The spark that ignited this unstable core lay in the pattern of lending. The amount of credit available to homeowners increased while lending standards were reduced in a myopic and ultimately counterproductive credit extension scheme. The result was a Housing Bubble that quickly turned into a derivatives boom of epic proportions. This paper will address both sides of this issue, that of the Federal Reserve policy that licensed risk taking and that of the derivative models that licensed undercapitalization, in an effort to grasp the rationale and motivations of the respective actions of key financial market participants.