Credit

Credit is the life blood of any modern economy so the more available credit is, the better off the economy is. Banks are where most businesses go for credit but banks are limited by law and can only loan 90% of their assets. This is another way of saying that Banks are required to maintain a reserve of 10% and this is called the Bank Reserve Requirement. When a bank makes a loan there is the risk that the borrower may not repay the loan so banks like to minimize this risk. When the Exxon Valdes oil tanker accident happened Exxon needed a line of credit to pay potential law suits so they went to JP Morgan who agreed to back Exxon. This then limited JP Morgans ability to give loans since they had to meet the reserve requirement of 10%. They decided to go to other companies and ask them to take on a part of their risk which was the beginning of what became to be called credit default swaps. Other companies agreed to buy these swaps and a new industry was born. Once other banks saw how they could free up capital to make more loans they jumped on the band wagon. Soon credit default swaps were being sold and traded around the world and within 6 years the market had grown to $60 trillion with a T. The interesting and dangerous thing about this new market was that it was unregulated. This worked out so well that the next step was to use the swaps to spread the risk of home mortgages. This then allowed all sorts of mortgages without any government over sight and everyone remembers how this turned out when 10 million Americans lost homes they never should have had in the first place. The government came to the rescue but not to the home owners. They just bailed out the banks because, remember, the country had to have credit.