Veteran derivatives trader Nassim Nicholas Taleb, Distinguished Professor of Risk-Engineering at New York University’s Polytechnic Institute, confirms that banks routinely certified such transactions as solid and risk-free using quantitative models which, in reality, simply concealed the actual scope for risk and its potential consequences. This allowed them to create extremely risky financial instruments, slap a certification of safety over them, and sell them on for stupendous profits. In turn, these products were fraudulently insured by other financial companies, which used the opportunity to charge exorbitant fees. But these ‘insurance’ firms simply did not have the assets to cover losses in the event of a real default.
Consumers increased their spending on the basis of the security of their houses, while financial institutions accelerated their lending on the basis of rapidly proliferating mortgages, together contributing to rising prices and a mounting inflationary property and consumer bubble. This frenzy of spending and lending created a veritable bonanza of debt-based ‘virtual growth’. It had nothing to do with a real surplus derived from increases in productivity, but rather from a monetary system based on the ability to continually borrow (and effectively create out of nothing) cash that in real terms did not yet exist, except as the expectation of repayments on loans.
Worldwide sales worth trillions of dollars of these dodgy financial instruments distributed risks across multiple financial markets. Moreover, the hierarchical structure of the global financial system, dominated by New York and London, meant that debt-based profiteering at the core of the system radiated outwards and downwards to more peripheral countries tied into the system through their receipt of loans from the core and/or purchases of derivatives.
Indeed, thanks to the monumental profits and concomitant phenomenal growth accrued through this process, US and British financial institutions jubilantly accelerated lending to Europe, Asia, and countries in the South, creating an entrenched global web of debt, credit and financial profits. Thus, when the defaults started in the US, the crisis radiated outwards and downwards, and is still doing so.