Let’s examine the housing bubble. For this example, we will use a million dollar home (before the bubble it was worth 300K). The buyer secures a 30 year loan for one million dollars. The home's seller puts the untaxed windfall gain in the bank.
The housing market tanks and now million dollar homes are worth 300K again. Each homeowner signed an agreement with the bank, to pay on the loan for 30 years. Assume these home owners walk and send the keys to the bank. The homeowner’s loss is probably negligible.
The bank now has a problem. Instead of a steady income stream for 30 years, they have many 300K homes and a loss on each home of 700K. The bank is now insolvent and the FDIC insurance will step in to make good on the bad loans.
At this point, two things are evident. The money that was to be paid back by the buyer, was to be done with earnings over 30 years. The money paid by the FDIC to the bank to cover the bad loan was printed money paid immediately. So the contract to pay on the home for 30 years has been canceled, this money if it had been paid, would have been real money, i.e. earnings.
In our example, the bank now owns the house worth 300k and receives from the FDIC the other 700K. Instead of the banks getting 1/30th of their investment (plus interest) back every year, they get 7/10ths back right away and the rest when they unload the home.
When you realize that a 30 year home loan has a payoff of 2 ½ times the amount borrowed, the 4 trillion dollar loss currently projected would represent 10 trillion of real earnings over 30 years. This would have been money that could not be used for consumption, it was already under contract. Under the FDIC plan, the banks get immediate remuneration with printed money and their depositors are still whole. It’s painless; no one had to work for it.
So, everyone that sold their house before the bubble popped is a winner, everyone that walked away from their bad investment, after the pop, is a winner and everyone with money in the bank is a winner (A real fairy tale ending). The government pours 4 trillion dollars into a banking system that expected that sum back with interest over a 30 year time frame. Now the bankers have all of this money to lend with no one credit worthy enough to loan it to. Where do the banks go next to lend money? Greece, Portugal, Spain, Ireland—they can’t lose, they’re FDIC insured. And of course there is no inflation, the person who sold his house for 700k more that he paid for it, gets to keep it. The bank that lost the 700k (when the new buyer walked), gets reimbursed by the FDIC. We have a bank owned house still worth 300k and 1.4 million dollars of new money in the banking system.
The thing to realize here is that the new homeowners never really had the earnings to pay these loans off, 30 years down the pike. But our government will pick up the tab on this failed dream of riches. Real estate was a get rich quick scheme and an obvious bubble. America is the new Wonderland; you wonder how we will pay for all of this. You won't have to wonder long.