Another primer on credit crisis

This one comes from the NYT's David Leonardt, who admits to being a bit hazy about all the details (and he covers this stuff). Since the Bear Stearns collapse, there have been any number of backgrounders on how the financial system went down, but this one sets the right tone - somewhere between the Weekly Reader and the Journal of Economics. "I’m here to urge you not to feel sheepish," Leonardt writes. "This may not be entirely comforting, but your confusion is shared by many people who are in the middle of the crisis." Perhaps the overriding confusion stems from the fact that most homeowners are doing just fine. So why the crisis?

I spent a good part of the last few days calling people on Wall Street and in the government to ask one question, “Can you try to explain this to me?” When they finished, I often had a highly sophisticated follow-up question: “Can you try again?” I emerged thinking that all the uncertainty has created a panic that is partly unfounded. That said, the crisis isn’t close to ending, either. Ben Bernanke, the Federal Reserve chairman, won’t be able to wave a magic wand and make everything better, no matter how many more times he cuts rates. As Mr. Bernanke himself has suggested, the only thing that will end the crisis is the end of the housing bust.

The piece does a good job of explaining leverage, which is a key factor in the swift meltdown of the credit markets, even though it’s an essential part of the way many businesses work (especially real estate).

[Investors] made $100 million bets with only $1 million of their own money and $99 million in debt. If the value of the investment rose to just $101 million, the investors would double their money...If that $100 million investment I described above were to lose just $1 million of its value, the investor who put up only $1 million would lose everything. That’s why a hedge fund associated with the prestigious Carlyle Group collapsed last week.