Why did destruction of $10 trillion in stock values when the dot-com bubble collapsed not damage the banking system, while a $3 trillion loss in housing values has driven banking and the credit system to its knees? Gjerstad and Smith dig into these events and the Great Depression and suggest the reasons here.
Only a small fraction of the money in dot-com stocks was margined. So when that bubble popped, investors lost their own money and the banks did not not suffer substantial loan defaults. But as the subprime mortgage bubble has collapsed the losses have fallen much more on the lenders than on the nominal equity owners who cannot pay or, under the laws of most States, are not required to repay mortgage loans if they walk away. Gjerstad and Smith re-examine the Great Depression and, disagreeing with Milton Friedman and Anna Schwartz, say it was not precipitated so much by the stock market crash as by the later collapse of a bubble in residential mortgages. Their conclusion:
The hypothesis we propose is that a financial crisis that originates in consumer debt, especially consumer debt concentrated at the low end of the wealth and income distribution, can be transmitted quickly and forcefully into the financial system. It appears that we're witnessing the second great consumer debt crash, the end of a massive consumption binge.
Skeptic
In the 1920s, President Hoover made a big federal push to increase homeownership rates, including encouraging expansion of credit for home mortgages. The story has been repeated several times since, most recently by the Bush administration, always with a bad ending. Steven Malanga has the story here. Thanks to Christine for sending it to me.