So what caused the financial crisis?
Now that we understand the four types of causation, we can apply them to what happened in 2008. Because if we understand how it all happened, we can apply these lessons to today. The efficient cause of the crisis was the sub-prime mortgage market. That’s what blew up in 2007 and wiped out trillions in capital.
The material cause was what made up that capital–the monetary system that underlies our financial system. It’s why some people want to reestablish the gold standard. Change the material of the financial system and you change how the system works.
The formal cause is the structure of the financial system itself. This structure creates vulnerabilities. Change the structure, and you may become less vulnerable. It’s why there have been such changes in financial regulation and ongoing monitoring recently.
The final cause–or goal–of any economic setback is to rebalance the underlying economic system. In 2002 through 2006–for many reasons–we built way too many homes. During the recession, homebuilding went down to levels not seen since the ’50s. That allowed the economy to work off the excess inventory. Because economic needs change, we’ll always have recessions. It’s the only way that a system can adjust to new circumstances.
By looking at the crisis through the lens of classical causation, we can see how and why some changes in the system might help us become less vulnerable during the next crisis. Because be assured, another crisis will come. As someone once said, we are born to trouble as the sparks fly upward.
Douglas R. Tengdin, CFA
Chief Investment Officer