Consider the widget making industry. Say for about ten years or so, they are able to produce a new type of widgets. This new type of widget is extremely profitable – its made from shoddy equipment, but a large proportion of consumers are willing to pay premium prices for these new class of widgets.
After about ten years, some buyers start to sour on the new class of widgets… and the demand for widgets collapses. Of course, the solution is obvious: either cut the price of the shoddily produced widgets (by a lot), or raise their quality (by a lot), or both. But widget makers don’t want to this – they got addicted to easy profits, after all, and cutting the price or raising the quality of widgets would be unprofitable.
Widget makers, good capitalists that they are, are normally against bail-outs, but this case is different. This case, they say, can screw up the entire economy. Besides… the problem, as they see it, is one of liquidity. They just have to ride out a rough patch and then consumers will go back to buying these expensive, low quality widgets.
And if you’re wondering, yes, this parable is about the sub-prime loan mess. And about housing. And Chrysler. And the S&L crisis. And junk bonds. Also, LTCM, Refco, WorldCom, Enron, and a whole host of other problems. A few of the words change, as does the degree of intentional fraud, bad judgment, and poor luck. Another thing that changes is the degree to which taxpayers get left holding the bag. However, all in all, the mess is generally about the same, as are the cries for bail-out.