Faith-Based FinanceJuly/August 2019 37
would accurately reÁect its underlying
risk. And since the risks would be
shared, Ãnance would be safer.
It was a compelling sales pitch, but a
deeply Áawed one. One problem was
that derivatives and securitization were
so complex that they introduced a brand
new risk into the system: ignorance.
It was virtually impossible for investors
to grasp the real risks o these products.
Little to no actual trading took place with
the most complex instruments. That
made a mockery o the idea that Ãnancial
innovation would create perfect free
markets, with market prices set by the
wisdom o crowds.
Worse still, as the innovation became
more frenzied, Ãnance became so
complex and fast growing that it fed on
itself. History has shown that in most
corners o the business world, when
innovation occurs, the middlemen get cut
out. In Ãnance, however, the opposite
occurred: the new instruments gave
birth to increasingly complex Ãnancial
chains and a new army o middlemen
who were skimming o fees at every
stage. To put it another way, as innova-
tion took hold, Ãnance stopped looking
like a means to an end—as the word
£ner had once implied. Instead, Wall
Street became a never-ending loop o
Ãnancial Áows and frantic activity in
which Ãnanciers often acted as i their
profession was an end in itself. This
was the perfect breeding ground for an
unsustainable credit bubble.CREDIT
The concept o credit is also crucial in
understanding how the system spun out
o control. Back in 2009, Andy Haldane,
a senior ocial at the Bank o England,
tried to calculate how much informationbusiness proÃts and nearly eight per-
cent o ³²¡. Deregulation had un-
leashed a frenzy o Ãnancial innovation.
One o these innovations was deriva-
tives, Ãnancial instruments whose value
derives from an underlying asset.
Derivatives enabled investors to insure
themselves against risks—and gamble
on them. It was as i people were
placing bets on a horserace (without the
hassle o actually owning a horse) and
then, instead o merely proÃting from
the performance o their horses, creat-
ing another market in which they could
trade their tickets. Another new tool
was securitization, or the art o slicing
and dicing loans and bonds into small
pieces and then reassembling them into
new packages (such as ²£s) that could
be traded by investors around the
world. The best analogy here is culinary:
think o a restaurant that lost interest
in serving steaks and started oering up
sausages and sausage stew.
There were (and are) many beneÃts
to all this innovation. As Ãnance grew,
it became easier for consumers and
companies to get loans. Derivatives and
securitization allowed banks to protect
themselves against the danger o
concentrated defaults—borrowers all
going bust in one region or industry—
since the risks were shared by many
investors, not just one group. These tools
also enabled investors to put their
money into a much wider range o
assets, thus diversifying their portfolios.
Indeed, Ãnanciers often presented
derivatives and securitization as the magic
wands that would conjure the Holy
Grail o free-market economics: an
entirely liquid world in which everything
was tradable. Once that was achieved,
the theory went, the price o every asset