Or, if you prefer, the housing bubble that started well before the onslaught of CDOs. First, let me point out for readers that ScienceBlogling Mark Chu-Carroll’s description of the latest
Vampire Squid Goldman Sachs scandal is perhaps the clearest and most concise description of the whole CDO problem. Having said that, CDOs weren’t the fundamental problem. The fundamental problem was a housing bubble that existed before CDOs became rampant–although CDOs probably ran the bubble up further. But as I’ve noted elsewhere, housing prices were already wildly inflated .
Dean Baker lays out the basic problem:
For the 87,865th time, the collapse of the bubble led to a falloff in annual construction (residential and non-residential) spending of more than $600 billion. The loss of $6 trillion in housing wealth led, through the housing wealth effect (this isn’t radical — it is as old an economics doctrine as you’ll find) to a loss of close to $400 billion in consumption demand. That gives a combined loss in demand of more than $1 trillion and hence a really bad recession.
The bubble represents a far larger problem than fraud.