The Credit Meltdown: The Problem Was Too Little Risk

Steve Waldman at Naked Capitalism makes a very good point: the problems that led to the credit crunch were not excessive risk taking, but rather an excess of risk aversion.

Essentially, people were not looking to take risks, they were looking at good rates of return from little or no risk, so, for example, since, "Housing never declines in value," it was safe, and prices "always" go up.

The same goes for the Yen carry trade, where people made money by borrowing in Yen, and investing in dollars, and making money off the spread.

This also gave us the various tranches of CDOs, which are now collapsing.

Investing in risk would be things like alternative energy projects, or improvements in productivity, or new ways to feed the world, and there was no investment in these areas following the dotcom boom.

All the "innovation" that we saw was merely an attempt to break the relationship between risk and return, and it failed.