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Ben Stein How Not to Ruin Your Life

Ben Stein, How Not to Ruin Your Life

Everything You Wanted to Know About the Credit Crisis But Were Afraid to Ask

by Ben Stein

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Posted on Monday, September 22, 2008, 12:00AM

The headlines scream doom. There are endless references to the economic situation being "the worst since The Great Depression." Immense names in finance have collapsed and sunk beneath the waves of the financial crisis. Please allow me to try to explain a bit of what's going on.

First of all, all you have to do is look around you to see that in terms of daily life, we are not anywhere near The Great Depression. Unemployment is barely about six percent. It was 25 percent at the nadir of The Great Depression. Real per capita incomes adjusted for inflation are at least five times what they were during The Great Depression. Airplanes are full. High-end restaurants are full. Prices are painfully high for food. These are not signs of a Great Depression.

On the other hand, the losses in financial products have been devastating. The Dow is off 23 percent from its high in 2007. Financial stocks even after the recent rally are off staggeringly. The biggest insurer in America has become a basket case.
Most of all, there is REAL FEAR in the air. Decent, hard working people are terribly afraid as they see their life savings melt away. Retirement has become just a forlorn dream for tens of millions of Americans.

How did it happen?

Here s one big part of the answer. First, the alert reader will notice that Ben Stein said many times that the amount of money at risk in the subprime meltdown was just not enough to sink an economy of this size. And I was right...to a point. The amount of subprime that defaulted was at most - after recovery in liquidation - about $250 billion. A huge sum but not enough to torpedo the US economy.

The crisis occurred (to greatly oversimplify) because the financial system allowed entities to place bets on whether or not those mortgages would ever be paid. You didn't have to own a mortgage to make the bets. These bets, called Credit Default Swaps, are complex. But in a nutshell, they allow someone to profit immensely - staggeringly - if large numbers of subprime mortgages are not paid off and go into default.

The profit can be wildly out of proportion to the real amount of defaults, because speculators can push down the price of instruments tied to the subprime mortgages far beyond what the real rates of loss have been. As I said, the profits here can be beyond imagining. (In fact, they can be so large that one might well wonder if the whole subprime fiasco was not set up just to allow speculators to profit wildly on its collapse...)

These Credit Default Swaps have been written (as insurance is written) as private contracts. There is nil government regulation of them. Who writes these policies? Banks. Investment banks. Insurance companies. They now owe the buyers of these Credit Default Swaps on junk mortgage debt trillions of dollars. It is this liability that is the bottomless pit of liability for the financial institutions of America.

Because these giant financial companies never dreamed that the subprime mortgage securities could fall as far as they did, they did not enter a potential liability for these CDS policies anywhere near their true liability - which again, is virtually bottomless. They do not have a countervailing asset to pay off the liability.

This is what your humble servant, moi, missed. This is what all of the big investment banks and banks and insurance companies missed. This is what the federal government totally and utterly missed. This is what the truly brilliant speculators in these instruments did not miss. They could insure a liability they could also create and control. It is as if they could insure a Cadillac for its value upon theft - but they could control what the value the insurer had to pay off was. The insurer thought it might be fifty thousand dollars - but it was manipulated into being two million.

This is the whirlpool sucking down finance.

Now, we are about to have a similar phenomenon happen with commercial mortgage debt, debt from mergers and acquisitions, credit card debt, and car loan debt. Many trillions of dollars in Credit Default Swaps have been sold on all of this, and the prices of all of them have fallen and can be made to fall more.

As I said, the pit of loss is bottomless. Warren Buffett, the smartest man of all time in the world of finance, has called financial derivatives - of which Credit Default Swaps are a prime example - "weapons of financial mass destruction." And so they are. As with the hydrogen bomb, no one thought they would ever be used to end the world. But unless someone figures a way out - and maybe the new RTC is and maybe it isn't - we are in real peril. This should never have happened. Now that it did happen, should the taxpayer pay to make the billionaire speculators whole on their bets? What the heck is to be done?

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  • Diehardstatefan1 - Tuesday, October 7, 2008, 5:41PM ET  Report Abuse

    • Overall: 1/5

    I'm really tired of this guy. I respect him for putting out the "Expelled" movie, but as far as fiscal advice on the economic crisis, he doesnt bring much credible info to the table to support his claims..except for the abstract mumbo jumbo that he sprinkles on here and there. The thing that got me mad enough to write this comment is the thing about the Great Depression (saying that we're not near one) um....hello? I'm in college and the majority of us (and I'm at an engineering school) are worried about finding a job when we graduate. Anyways, in regards to the Depression thing: we lost 159,000 jobs in September, the stocks fell around 508 points today alone, and foods at a peak price since the 1930s. Mind you Ben, the last time I checked prices were so high for bread in the Depression that they sold thier possessions to get it. So Ben, maybe you should write articles about things you actually understand and stop telling us things that we already know, or are not true.

  • Whooper Fan - Monday, October 6, 2008, 2:32AM ET  Report Abuse

    • Overall: 3/5

    So these guys were doing a circle dance (to put it politely) on credit default swaps, so what. Let the courts sort out who owes what to whom as far as these bozos go. Take the $700BB and start 10 new banks capitalized at $70BB and let them leverage 5:1 and take over the short-term credit facility while the courts sort out this mess. Open question is why retail depositors should use banks at all. Japan and Germany have government banks through the post office where mom and pop can bank. Why not here? Let us invest in T-bills directly in no fixed increment.

  • Yahoo! Finance User - Saturday, October 4, 2008, 8:05PM ET  Report Abuse

    • Overall: 5/5

    If you are interested in the economic data behind this perspective, check out the UPI report from 10/01/08 or do a search under yahoo news service under "Great Depression"

  • Matthew - Saturday, October 4, 2008, 3:28PM ET  Report Abuse

    • Overall: 5/5

    Enlightning article on a terible situation. A better analogy would be more like taking a life insurance policy out on someone you were planning to kill and expecting to collect after you murdered him! That would be patently illegal, ruled as an unenforceable contract, and the insurance company would not pay. Why doesn't the SEC regulate this so that the contract has to be backed up by real asstets, ie the mortages or other debt instruments? Otherwise, they are declared unenforceable and the premiums either returned or forfeited by the payee. That would solve a large part of the economic crisis in short order and eliminate obscene profits by the speculators!

  • Yahoo! Finance User - Saturday, October 4, 2008, 1:33PM ET  Report Abuse

    • Overall: 4/5

    People saying Republicans are responsible for this may want to check their facts. http://www.wsws.org/articles/1999/nov1999/bank-n01.shtml

  • deMystic - Wednesday, October 1, 2008, 5:17PM ET  Report Abuse

    • Overall: 3/5

    Hmmm, after a quick goggle, I found this insightful and well-documented post from seven months ago, entitled "Credit Default Swap Tsunami Approaches" by Mike Shedlock / Mish (a registered investment advisor representative for SitkaPacific Capital Management): http://globaleconomicanalysis.blogspot.com/2008/02/credit-default-swap-tsunami-approaches.html He makes a pretty bold, but prophetic statement: "However, there are $45 trillion of credit default swaps out there. A default on a mere 10% would cause an economic disaster. Unfortunately, it's guaranteed to happen." And, it would seem that even he underestimated the potential risk of these derivatives at $45 Trillion with only a 10% default rate...and we're far beyond that at this point already. Regardless of the assigned blame, something has to be done to prevent this giant sucking wound to the economy to fester and turn deadly. I'm not an economist and have no answers; smarter minds than I should have this on their collective radar...however, I've heard nothing about this over the last two weeks, save for this article.

  • Vito - Tuesday, September 30, 2008, 8:53PM ET  Report Abuse

    • Overall: 5/5

    No bailout and no ceo compensation, enough is enough, suck it up!!!

  • Yahoo! Finance User - Monday, September 29, 2008, 4:16PM ET  Report Abuse

    • Overall: 5/5

    Ben's doing the average reader a serious disservice with trash like this. He makes a half-true assessment of the situation that v-e-r-y carefully skirts the issue of off-balance sheet debt, accounting fraud, and American's grossly negligent spendthrift ways. I'd like to thank all of you that live beyond your means and in turn have screwed the last few of us that bothered to live within our means and rent.

  • Stephen M - Sunday, September 28, 2008, 1:18AM ET  Report Abuse

    • Overall: 4/5

    This crisis happened because of the Republican Party's success in deregulating the markets and in gutting the Glass-Steagall act, which had placed firewalls between the banks and Wall Street. With those safeguards in place, this would not have occurred. Our failure to balance our budgets also plays a role.

  • realdoc - Saturday, September 27, 2008, 2:17AM ET  Report Abuse

    • Overall: 5/5

    Where is the sequel to this article?

  • pkpg - Friday, September 26, 2008, 5:11PM ET  Report Abuse

    • Overall: 1/5

    I was so incensed by Ben's advice column (which is really just an elaborate apology saying there was no way he could have known) that I had to blog about it. http://www.prestonpoulter.com/wordpress/?p=43

  • Meme - Friday, September 26, 2008, 9:51AM ET  Report Abuse

    • Overall: 2/5

    Who would have thunk it? Not Y2K, not the Mayan calender (yet), not the enemies from without. The Flood waters will seek their own level and there is little to fix the crack in the dam. Capitalism is imploding. Those wealthy enough to base existence on the aquisition of monetary dominance shall be brought down. Let Wall Street topple. This is the culling of America folks'. "Butch up" and face the music.

  • ticman123 - Friday, September 26, 2008, 9:34AM ET  Report Abuse

    • Overall: 2/5

    Mr Stein, The time has come, for everyone to accept the fact, that the great Credit expansion which began in 1982 is unwinding. This will not be pleasant for leveraged companies or individuals. I think it's time to wait for the panic selling or the very long bottom before financial assets are worth buying. And the final Bubble to burst US GOVT BONDS could be the ultimate calamity.

  • Yahoo! Finance User - Friday, September 26, 2008, 6:21AM ET  Report Abuse

    • Overall: 5/5

    Ive made money and stopped myself trading because I could see the uncontrolled greed. the greedy people need to cop the loss or else they wont learn the lesson. I do feel sorry for the un educated who thought we had bottomed some time ago and margined in , they don't deserve the psychological damage this will cause. There should be no insurance payout on these cdo's .ie through the bailout of AIG etc although I do believe we needed to save it.Not one director of a failed company should get any payout due to the bailout.

  • Yahoo! Finance User - Friday, September 26, 2008, 6:09AM ET  Report Abuse

    • Overall: 5/5

    CNN told me it is because G.W. Bush hates poor people. Guess they were wrong.

  • Yahoo! Finance User - Friday, September 26, 2008, 4:25AM ET  Report Abuse

    • Overall: 5/5

    Very good observation about the crisis. Paulson is a complete liar. Don't be deceived by your patriotism, the bail out plan is intended to use public money to save his rich friends in Wall Street. The investment banks, insurance companies deserve this outcome today for their own mistakes made in the past.

  • Yahoo! Finance User - Friday, September 26, 2008, 1:50AM ET  Report Abuse

    • Overall: 1/5

    Ben, this is supposed to be an advice column. You can't end an advice column with "What the heck is to be done?" People want know what to do. Why aren't you repeating the same advice you always have - "Hang in there! Stay in the market! Because as you and every other so called guru is finding out - gambling should never be the basis of investing for your future. Here is some advice for those who have listened to you and are now feeling the hit. There are ways to get out of debt quickly and save hundreds of thousands of dollars in mortgage interest. There are ways to protect your money from market risk. There are people who are sleeping well at night because they haven't lost half of their retirement. Here's some real advice. Get a real financial education, not from the government or financial institutions who pretend to help while taking your money. Learn concepts that help you get out of debt quickly, concepts that save you money and concepts that protect your money from the market meltdowns. I advise researching www.maxhouse.com to start.

  • Chico - Friday, September 26, 2008, 1:31AM ET  Report Abuse

    • Overall: 3/5

    What the mainstream media doesn't understand and what we haven't been told yet - even by Ben Stein here - is there are some $61 TRILLION of these CDS contracts active in the marketplace! What that means quite simply is: There is NOT enough money in the entire world to fulfill the obligations of these contracts. There is only ONE thing that can save us from a total and complete worldwide economic meltdown: These contracts MUST be either legislatively or by Executive Order declared Unconsitutional by their threat to the very survival of this nation, thus rendering them all null and void...Or possibly enabling the issuer to buy them back at the same price at which they were sold. Apparently (and I admit I don't fully understand them) these continue to go UP in value the more the financial institutions, stock market and overall economy sink...Which means they become an unstoppable force that literally feeds on financial destruction. They simply must be declared ILLEGAL if we are to avoid a situation where every country in the world will be unable to bail us (and themselves) out of this derivatives mess! Now those who are making Billion$, possibly even Trillion$, on the financial destruction that is taking place won't be very happy...But perhaps they can just go over in the corner and F#(K themselves?!?

  • Yahoo! Finance User - Friday, September 26, 2008, 12:57AM ET  Report Abuse

    • Overall: 3/5

    Ben's article has some useful information for people who did not understand the subprime problem very well. However, the point made by one commentator, that CDS were primarily bought by banks to lower their capital requirement is significant. Also the point made by stocksiboughtaredown that, if indeed banks are the major buyers of CDS based on subprime mortgages, and the government has already rescued the main seller of CDS (AIG), then why do we still need the bailout package that buys subprime mortgages? banks holding these mortgages will be made whole by the CDS, along with those who do not own the mortgages but simply bet on their drop in value. To me, the solution is simple, for CDS buyers who are hedging their mortgage assets, their contract can be supported. Those naked CDS betters should have their profit limited. For those who equal tighter regulations to socialism, I guess you also do not want to have policemen on the street. Everyone should fend for themselves and let the strong survive.

  • Peter - Thursday, September 25, 2008, 10:07PM ET  Report Abuse

    • Overall: 5/5

    This analysis is bang on. The package doe snot address these instruments nor does it deal with the freeze in the credit market - which is happening on a global basis.

  • Yahoo! Finance User - Thursday, September 25, 2008, 10:04PM ET  Report Abuse

    • Overall: 1/5

    Just my take on the dollar lost - dollar gained argument. If you sold a house for $70,000, you gain $70,000 and the buyer gives up $70,000. If you sell that same house for $40,000, the seller gets $40,000 and the buyer only gives up $40,000 and that additonal $30,000 stays with the buyer and never goes to the seller. So it's still a zero sum game.

  • David - Thursday, September 25, 2008, 9:29PM ET  Report Abuse

    • Overall: 4/5

    I disagree on the premise that some comments are based on... for instance, Michael T. (below) says, "It's not a bailout of wallstreet. A dollar lost is a dollar gained somewhere else." A dollar lost is not necessarily a dollar gained somewhere else. If I purchase an asset for its present value, let's say $100,000, and a year later its value is only $70,000, $30,000 is lost... gone... disappeared. When I sell this asset for its present value of $70,000, I lost $30,000 and no one gained $30,000. If the value of that asset remains at $70,000... then $30,000 is gone forever.

  • Yahoo! Finance User - Thursday, September 25, 2008, 9:04PM ET  Report Abuse

    • Overall: 1/5

    Looks like the "smartest guys in the room" aren't very smart at all... Oh, Ben; I apologize. I forgot you were still here. You may go now.

  • Amazon Queen - Thursday, September 25, 2008, 6:47PM ET  Report Abuse

    • Overall: 5/5

    It's all about who you listen to. Is the sky falling chicken little? Or, a penny saved is a penny earned? Take a chance... ride the B&O railroad to hell with Monopoly money!

  • Michael - Thursday, September 25, 2008, 6:19PM ET  Report Abuse

    • Overall: 5/5

    It's not a bailout of wallstreet. A dollar lost is a dollar gained somewhere else. Unfortunately, this dollar lost is so embedded that it could ripple thru the economy many times and affect us all. Those people who live within their means complain that they are punished for the reckless behaviours of others. It's not fair for them, but that doesn't negate the need for someone to do something to limit the loss of these same people. Honest people are going to lose their investment, pension, insurance, saving, and job. As Paulson said, guess what, they arealreadyon the hook.

  • Yahoo! Finance User - Thursday, September 25, 2008, 6:05PM ET  Report Abuse

    • Overall: 1/5

    Ben Stein has been RECOMMENDING BUYING FINANCIALS since at least the end of last year (when I first read his drivel)...I wonder if he has a pot to pee in now? He has absolutely had to have been CLOBBERED in these investments, probably throwing good money after bad while urging readers here to follow his lead...Poor Ben Stein...Poor Ben Stein Followers. FOR THE RECORD, the Bush Admin saw this coming as far back as 2002 or 2003 when they first asked CONGRESS TO PASS LEGISLATION TO REFORM Fannie & Freddie...BARNEY FRANK and his Democrat Buds "saw nothing wrong" with Fannie & Freddie and they were "financially sound", even as BARACK HUSSEIN OBAMA's CLOSE FRIEND FRANKLIN RAINES WAS COOKING THE BOOKS at Fannie Mae to net $90 Million in BONUSES. BARNEY FRANK and the Dems BLOCKED EVERY SUBSEQUENT ATTEMPT by the Bush Admin to prevent what has happened today from actually happening...Check the facts yourself. Now BARNEY FRANK is in charge of "FIXING" the situation he said would never happen...PUH-LEAZE!!! Fellow Democrat Charles Rangle (Chm of Ways & Means - THEY WRITE THE TAX CODE) is GUILTY of "not knowing" he had to report YEARS of INCOME from his rental properties on his taxes...PUH-LEAZE!!! And we're supposed to "vote Obama" to put us back on Easy Street?!?! OBAMA'S MISSION NUMBER ONE IS COMPLETE SOCIALIZATION OF THE UNITED STATES. It begins with Income Redistribution - Take money from the rich and successful (because they don't deserve all of that money) and give it to the poor and lazy (because they's human too). Talk about SUCKING THE LIFE BLOOD OUT OF CAPITALISM??? You ain't seen nothin' yet if Hussein and Nancy are running things for the next 4 years! While we're at it, let's take more money from all of you who can barely afford health insurance for your own family and GIVE EVERYONE IN THE US HEALTH INSURANCE! Don't be fooled by Hussein and Nancy...This current BAILOUT is exactly what they want! It conditions the unsuspecting American Public into accepting Gov't Ownership of Health Care and everything else that is SUPPOSED to be privately-held. God help us if these Dynamic Duds are running this country in January...The DEMOCRATS passed the Legislation (AND BILL CLINTON SIGNED IT) that allowed this mess on Wall Street to snowball unabated since 1999! I SAY THROW OUT ALL OF THE CAREER POLITICIANS IN THE NEXT ELECTION...They don't care about either the US or us. They aren't what the Founding Fathers had in mind with representatives going to Washington for PUBLIC SERVICE and then returning back to private life -- THEY ARE ALL LIFERS WITH ONLY THERE OWN QUEST FOR POWER AT HEART! And Ben Stein says "everybody missed this"...Once again Clueless Ben. The Admin saw it and the Demoncrats allowed it to happen. What the @#$# do you expect to happen when they wanted to put everyone in a home, regardless of whether or not they could afford it!?!? NINJA - No Income, No Job, No Assets - Here, blow on this mirror...If it fogs up, you're approved for a mortgage! We don't care because we can sell it to Wall St before the first payment is made... Now they want to allow bankruptcy judges to CHANGE THE TERMS of mortgages???? Who the #^$% understand FINANCE on Capitol Hill? If that passes, you'll pay 12-15% for a 30-yr mortgage NEXT YEAR -- Watch and see. That's what it'll take to cover the UNKNOWN RISKS when a 3rd party can change contract terms at any point in the future...What a bunch of DUMB@SS POLITICIANS!!! Just UNBELIEVABLE!!!

  • Nathan - Thursday, September 25, 2008, 3:47PM ET  Report Abuse

    • Overall: 4/5

    I do not believe for one moment that the American taxpayer should pay to bailout the negligent homeowners nor the banks that created this problem. Let the market find its level for once and get the values back to what they should have been and the people who can't afford housing back to an apartment!

  • tom s - Thursday, September 25, 2008, 2:14PM ET  Report Abuse

    • Overall: 2/5

    And who will bail out the people unable to make their mortgage payments or so heavily debt laden from having inadequate healthcare coverage? Or from having massive amounts of college student loans which cannot be wiped out by declaring bankrupcy. By the way, the Republican dominated government made much harder to do eseveral years ago for people. Democrats and Republicans. I cannot tell the difference anymore since they both seem to only make things more difficult for the majority of Americans while allowing the top 1% - 2% of people who control the companies in America to skirt by with highly questionable business decision making only to be either bailed out by the 2 party system running the US government. Democrats and Rebpulicans. None of them can relate to average Americans have isolated their politicians from the real America. In the real America I live in every single day, I experience and see other average Americans losing hope and steadily sinking into the abyss of poverty, an unsurmountable amount debt, and growing realization that they will likely never be able to retire.

  • richard - Thursday, September 25, 2008, 1:53PM ET  Report Abuse

    • Overall: 1/5

    Reality check. 4 million people are homeless. Real unemployment is around 20 to 25%, not the 7% percent reported by the government which only reports those still looking for a job. They didn't actually make that distinction in 1933. The high end restaurants may be doing okay, but the small restaurants are going out of business at a record pace. Small business is in desperate times and are not hiring anyone. This is a simple case of a person with several homes not having a clue about reality. Who else do we know lives in this world? Folks like Ben and his buddy John, are still looking at the stock market as the solution. Wrong. The solution is to get back to real business, not just making a buck by turning credit. This has gone on too long. We need to invest in infrastructure, energy independence, fixing the health care system by getting rid of insurance companies and privately held hospitals, etc. We need to invest in the real American economy, not the phony financial scams Wall Street has created. No bailout, and no more stupid politicians. Lets get smart and get out of this disaster before it is too late. Vote Obama.

  • Rick M - Thursday, September 25, 2008, 1:05PM ET  Report Abuse

    • Overall: 2/5

    I'll give Ben two stars for finally admitting he was wrong. The idea that a financial columnist could "miss" hundreds of trillions of destabilizing insurance contracts is mind boggling. What a pathetic disgrace. I have no formal education in finance and the risks were obvious to me. Numerous analysts including Warren Buffet screamed about derivatives but the shills like Ben dismissed them as doomsayers. THIS WAS NOT MISSED. It was negligently ignored by greedy executives and cheered from the sidelines by incompetent idiots in the media like Ben. There should be no remaining doubt that Ben Stein is just an amatuer, feel good, entertainment "economist" that ignorantly parrots the conventional wisdon of a fraudulent and broken financial establishment. For spreading his ignorance far and wide he should accept part of the blame for this disaster and apologize like a man.

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