Scandal - Market Crisis

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Updated April 7, 2009

Check out ProPublica's comprehensive Bailout Guide. We track every taxpayer dollar, every recipient and every program, all in plain English.

The current financial crisis, widely acknowledged to be the worst since the Great Depression, has its roots firmly planted in the subprime mortgage crisis, which in turn was caused by unscrupulous lending by the mortgage industry, deceptive credit ratings and years of deregulation and loose mortgage standards.

The mortgage crisis spiraled into global proportions after the mortgage industry bundled its home loans into complex -- and often unregulated -- financial vehicles, which it sold to major banks across the country. When housing prices began to fall in 2006 and mortgage rates kept rising, the default rate on home loans skyrocketed. And the financial industry was left scrambling to cover those debts.

Many banks were surprised to learn the extent to which they had exposed themselves to risk since credit rating agencies had given these bundled loans their highest ratings, and the banks had purchased credit default swaps, a type of unregulated insurance, to cover their bets. But the ratings turned out to be faulty, which some employees knew at the time, and the credit default swaps ended up actually fueling the crisis.

In March, the crisis claimed the investment bank Bear Stearns, and the Federal Reserve provided financial backing to secure a merger with JPMorgan Chase. Countrywide -- the nation's largest mortgage lender -- was also felled after mounting losses from subprime investments forced a sale to Bank of America.

In September, major banks and financial institutions began to falter in rapid succession, and the government scrambled to respond with the greatest market involvement since the 1930s. Mounting financial troubles at the government-sponsored mortgage giants Fannie Mae and Freddie Mac, which own or guarantee nearly half of all U.S. mortgages, forced the Treasury to seize them on September 7.

Just a week later, Lehman Brothers, its books laden with subprime mortgages, filed for bankruptcy (the biggest in U.S. history), and Bank of America bought a floundering Merrill Lynch. On September 16, the Federal Reserve agreed to bail out the insurance behemoth AIG for $85 billion. AIG's bailout has since ballooned to around $180 billion. (We have a separate scandal page devoted to AIG's collapse and rescue.) The U.S. has also stepped in to rescue Citigroup, 36 percent of which is now owned by the government.

In early October, Congress authorized a $700 billion plan, dubbed TARP, to contain the crisis and thwart further bank failures. The Treasury Department soon began lending the first half of that money to banks across the country. (We're keeping a running tally of the banks getting bailout bucks.)

TARP has attracted a broad range of criticism since its inception. Its goal was to get banks to lend, but it doesn't require them to do so. Lending has actually gone down as banks use the money to acquire weaker banks and pad the pockets of their shareholders instead. Some banks have also been paying generous bonuses to their employees.

Government watchdogs warn that TARP oversight and transparency are falling short, partly because the Treasury has at times failed to supply enough detail. They also say it is vulnerable to fraud and are investigating whether political interference determined which banks got aid.

On Feb. 10, Treasury Secretary Timothy Geithner unveiled his plan for the second half of the TARP funds, which was promptly criticized for its lack of detail and resemblance to the previous administration's strategy. The hallmark of the plan, which the government explained more fully on March 23, is a public-private partnership designed to rid banks of their toxic assets. But big bailed-out banks have hinted at plans to boost prices by bidding on one another's assets with taxpayer money.

The administration and Congress have also attached stricter restrictions to bailout funds, like the executive pay cap passed in the economic stimulus bill, prompting a handful of banks to return the government's investment.

As of March 31, the government had spent nearly $2.98 trillion on its financial rescue efforts.

Essential Reading (and Listening):

"This American Life" explains the subprime mortgage crisis in a broadcast called "The Giant Pool of Money."
The New York Times' Roger Lowenstein explains how the three biggest credit rating agencies gave many securities backed by subprime mortgages their highest rating when in fact they were poised for disaster. Bloomberg also has a great two-part series on this.
Portfolio broke the story about Countrywide's ‘Friends of Angelo' program, which gave preferential mortgages to Sens. Christopher Dodd and Kent Conrad, among other VIPs.
The Washington Post explains how years of weak regulation and lax oversight helped bring about the crisis at Fannie Mae and Freddie Mac.
The New York Times' financial columnist answers FAQs on the Wall Street crisis and the government's response.
Two economists put the crisis on Wall Street in layman's terms.
A USA Today article explains how the Wall Street crisis will affect taxpayers, mortgage borrowers, retirement investors and others.
Still confused? BBC News has a very helpful, simplified glossary of financial terms.
This Rolling Stone article will take you on a very entertaining romp through the financial crisis and the government's rescue efforts. (It also has an easy-to-follow explanation of AIG's collapse.)
The latest coverage is below, but you'll find all the stories ProPublica has gathered on the financial crisis here.

Essential Documents:

ProPublica is tracking all the banks receiving bailout bucks under the TARP plan. It also has a map that shows you where all the banks are.
If you're looking for a quick, simple explanation of the subprime mortgage crisis, check out this stick-figure slideshow.
And here is a "Dummy's Guide to the Banking Crisis," which only goes up to September 2008 but is helpful nonetheless.
ProPublica's graph compares past U.S. bailouts.
This New York Times graph shows the losses of major banks in the last year.
This Wall Street Journal chart compares 2008's bank failures.
FinancialStability.gov is the federal government's Web site devoted to its bailout efforts.