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The Credit Crisis HD - YouTube
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the prices of credit visualized what is
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the credit crisis it's a worldwide
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financial Fiasco involving terms you
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probably heard like subprime mortgages
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collateralized debt obligations frozen
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credit markets and credit default swaps
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who's affected everyone how did it
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happen here's how the credit crisis
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brings two groups of people together
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home owners and investors homeowners
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represent their mortgages and investors
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represent their money these mortgages
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represent houses and this money
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represents large institutions like
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pension funds insurance companies
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sovereign funds mutual funds etc these
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groups are brought together through the
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financial system a bunch of banks and
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brokers commonly known as Wall Street
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while it may not seem like it these
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banks on Wall Street are closely
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connected to these houses on Main Street
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who understand how let's start at the
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beginning years ago the investors are
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sitting on their pile of money looking
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for a good investment to turn into more
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money traditionally they go to the US
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Federal Reserve where they buy Treasury
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bills believed to be the safest
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investment but in the wake of the
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dot-com bust in September 11th Federal
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Reserve Chairman Alan Greenspan lowers
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interest rates to only one percent to
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keep the economy strong one percent is a
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very low return on investment so the
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investors say no thanks on the flip side
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this means banks on Wall Street can
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borrow from the Fed for only one percent
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add to that general surpluses from Japan
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China and the Middle East and there's an
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abundance of cheap credit this makes
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borrowing money easy for banks and
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causes them to go crazy with leverage
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leverage is borrowing money to amplify
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the outcome of a deal here's how it
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works and a normal deal someone with
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$10,000 buys a box for ten thousand
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dollars he then sells it to someone else
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for eleven thousand dollars for a one
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thousand dollar profit a good deal but
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using leverage someone with ten thousand
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dollars would go borrow nine hundred
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ninety thousand more dollars giving him
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1 million dollars in hand then he goes
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and buys 100 boxes with his 1 million
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dollars and sells them to someone else
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for 1 million one hundred thousand
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dollars then he pays back his nine
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hundred ninety thousand plus ten
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thousand and interest and after his
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initial ten thousand he's left with a
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ninety thousand dollar profit versus the
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other guys one thousand leverage turns
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good deals into great deals this is a
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major way banks make their money so Wall
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Street takes out its ton of credit makes
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great deals and grows tremendously rich
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and then pace it back the investors see
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this and want a piece of the action and
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this gives Wall Street an idea they can
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connect the investors to the homeowners
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through mortgages here's how it works a
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family wants a house so they save for a
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down payment and contact a mortgage
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broker the mortgage brokers connects the
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family to a lender who gives them a
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mortgage the broker makes a nice
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Commission the family buys a house and
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becomes homeowners this is great for
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them because housing prices have been
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rising practically forever everything
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works out nicely one day the lender gets
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a call from an investment banker who
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wants to buy the mortgage
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the lender sells it to him for a very
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nice fee the investment banker then
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borrows millions of dollars and buys
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thousands more mortgages and puts them
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into a nice little box this means that
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every month he gets the payments from
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the homeowners of all the mortgages in
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the box then he six his banker wizards
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on it to work their financial magic
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which is basically cutting it into three
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slices safe okay and risky they pack the
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slices back up in the box and call it a
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collateralized debt obligation or CDL a
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CDO works like three cascading trays as
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money comes in the top tray fills first
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then spills over into the middle and
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whatever is left into the bottom the
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money comes from homeowners paying off
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their mortgages if some owners don't pay
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and default on their mortgage less money
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comes in and the bottom tray may not get
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filled this makes the bottom tray
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riskier and the top tray safer to
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compensate for the higher risk the
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bottom tray receives a higher rate of
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return while the top receives a lower
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but still nice return to make the top
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even safer banks will insure it for a
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small fee called a credit default swap
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the banks do all of this work so that
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credit rating agencies will snap the top
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slice as a safe triple-a rated
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investment the highest safest rating
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there is the okay slice is triple B
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still pretty good and they don't bother
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to rate the risky slice because of the
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triple-a rating the investment banker
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can sell the safe slice to the investors
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who only want safe investments he sells
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the okay slice to other bankers and the
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risky slices to hedge funds and other
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risk takers the investment banker makes
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millions he then repays his lungs
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finally the investors have found a good
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investment for their money much better
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than the one percent Treasury bills
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they're so pleased they want more si
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Dios
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Isis so the investment banker calls up
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the lender wanting more mortgages the
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lender calls up the broker for more
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homeowners but the broker can't find
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anyone everyone that qualifies for a
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mortgage already has one but they have
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an idea when homeowners default on their
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mortgage the lender gets the house and
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houses are always increasing in value
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since they're covered if the homeowners
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default lenders can start adding risk to
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new mortgages not requiring down
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payments no proof of income no documents
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at all and that's exactly what they did
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so instead of lending to responsible
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homeowners called prime mortgages they
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started to get some that were well less
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responsible these are subprime mortgages
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this is the turning point so just like
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always the mortgage broker connects the
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family with a lender and a mortgage
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making his commission the family buys a
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big house the lender sells the mortgage
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to the investment banker who turns it
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into a CDO and sells slices to the
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investors and others this actually works
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out nicely for everyone that makes them
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all rich no one was worried because as
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soon as they sold the mortgage to the
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next guy it was his problem if the
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homeowners were to default they didn't
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care they were selling off their risk to
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the next guy and making millions like
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playing hot potato with a time bomb not
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surprisingly the homeowners default on
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their mortgage which at this moment is
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owned by the banker this means he
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forecloses and one of his monthly
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payments turns into a house no big deal
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he puts it up for sale
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but more and more of his monthly
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payments turn into houses now there are
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so many houses for sale on the market
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creating more supply than there is
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demand and housing prices aren't rising
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anymore in fact they plummet this
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creates an interesting problem for
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homeowners still paying their mortgages
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as all the houses in their neighborhood
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go up for sale the value of their house
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goes down and they start to wonder why
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they're paying back their $300,000
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mortgage when the house is now worth
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only 90 thousand dollars they decide
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that it doesn't make sense to continue
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paying even though they can afford to
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and they walk away from their house
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default rates sweep the country and
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prices plummet now the investment banker
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is basically holding a box full of
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worthless houses he calls up his buddy
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the investor to sell his CDO but the
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investor isn't stupid and says no thanks
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he knows that the stream of money isn't
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even a dribble anymore the banker tries
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to sell to everyone but nobody wants to
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buy his bomb he's freaking out because
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he borrowed millions sometimes billions
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of dollars to buy this bomb and he can't
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pay it back whatever he tries he can't
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get rid of it but he's not the only one
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the investors have already bought
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thousands of these bombs the lender
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calls up trying to sell his mortgage but
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the banker won't buy it and the broker
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is out of work the whole financial
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system is frozen and things get dark
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everybody starts going bankrupt but
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that's not all the investor calls up the
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homeowner and tells him that his
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investments are worthless and you can
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begin to see how the crisis flows in a
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cycle welcome to the crisis of credit
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