Why Read It?
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Explains the developments that precipitated the global financial crisis in terms that anyone can understand.
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Provides new insights into how the financial crisis developed in a lucid and witty manner.
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Points out that the critical factor that caused the crisis was that banks could sell loans on to investors, removing the relationship between lenders and borrowers—it no longer mattered whether the lender thought the borrower could repay the loan.
Getting Started
IOU explains the events that led up to and precipitated the global financial crisis in a humorous and easily understandable manner. However, the prose, while simple, is never simplistic. The book describes the main characters involved, ranging from the mathematicians that invented the new derivatives based on subprime loans, and the bankers who sold these products on to gullible investors, to the politicians and central bankers who failed to understand or supervise what was going on.
Author
John Lanchester (b. 1962) is a novelist, journalist, and winner of the Whitbread First Novel award and the EM Forster award, among other prizes. He says that he began studying the global economic crisis as the background to a novel and then realized that he had “stumbled across the most interesting story I’ve ever found.” He adds that as an outsider to economics and finance, he sought to understand the issues that led to the crisis and explain these to the layman.
Context
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John Lanchester’s painstaking research has enabled him to discover how the derivatives that caused the financial crisis—credit defaults swaps (CDS)—were developed.
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Provides detailed explanations of these financial instruments and how they work.
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Reveals that the trade in derivatives exceeds the total annual economic output of the world by an enormous factor, “perhaps tenfold,” and details how this gigantic, unstable bubble was allowed to grow to dangerous proportions.
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Analyses failures of risk management in banks, and provides insights into the American housing market, looking at how the subprime market developed partly as a result of political pressure from Washington.
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Explains how policy failures in general, and the loose money policy adopted by the Federal Reserve in particular, created the credit bubble that preceded the financial crisis.
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Shows how the ratings agencies defied common sense by assigning triple-A credit ratings to instruments that were composed of subprime debt.
Impact
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This is one of the most readable accounts of the financial instruments and the main characters involved in the events that led to the global financial crisis.
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Describes how sophisticated theories of risk, based on the analysis of past data, asserted that a sustained collapse in American house prices was a hugely improbable event, even though such events had happened in the past.
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Shows how these theories of risk led to “predatory lending” to some of the poorest people in the United States, including “ninja” loans, to applicants with “no income, no job, no assets.”
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Explains how the original sellers of these loans were able to escape exposure by bundling up the loans and selling them on to investors who then took out insurance with companies such as AIG.
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Warns that although everybody is hoping for an economic recovery, that is when the public will receive the bill for the measures taken to avoid another global Great Depression.
Quotations
Lanchester explains the 20-year evolution of the credit derivatives and their ultimate impact by saying, “It’s as if people used the invention of seat belts as an opportunity to take up drunk driving.”
“I am going to arraign a number of culprits for the crash: derivatives are prominent in the line-up, but among derivatives it was CDS which were the chief baddy, the gang leader, the mafia don, the most destructive of the WMDs.”
“Many bright, literate people have no idea about all sorts of economic basics, of a type that financial insiders take as elementary facts about how the world works.”
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