Reference Article: The Supply Theory of Money is Simple Enough
Everyone is feeling the pinch and saying to themselves; where did all the money go? The money went back to where it came from – nowhere. You see the Fed created virtual money by lowering interest rates during the housing boom – and every virtual dollar was leveraged (or borrowed against) and loaned out by up to 50 times.
Reference Article: Why the Rich are Getting Poorer
The low interest rates from 2003-3005 lowered mortgage payments, mading it possible for millions of people to afford a home of their own. As more and more people bought homes, the value of all homes went way up – in some places by three times their value. Then, large banks created easy lending standards to let even more people purchase a home and with no money down. The large banks also let people take millions in home equity loans to spend on consumer products that have no resale value.
The large banking firms had huge financial incentives to sell more homes, because home equity was rated by investment rating agencies like S&P with triple-A. That meant that the loans could be used as collateral to borrow against or sold around the world as many of them were. Many loans were borrowed at 50 times their value and invested in other things. A $200 thousand home loan could be used to borrow $10 million and put into other investments. This virtual money was how the Wall Street financial firms were able to produce huge gains for many years.
The housing market collapse has been devastating to these large banks that were heavily leveraged in the real estate market – like Bear Stearns who was just sold yesterday for less than their building is worth. More banks are likely to follow and the foreign banks who bought home equity loans, which don’t have the transparency regulations that we do, have yet to come clean – because of the high risks of triggering a bank run.
America has not yet come to grips with the reality that the economy of the housing boom was a phony. We were not really as rich as we thought we were. To make matters worse, we spend a lot of money that wasn’t ours and now we have to pay it back. It could take years for the economy to adjust and for us to realize what just happen.