“The Big Short” – Tale of the Financial Meltdown

Michael Lewis, author of The Big Short, interviewed on 60 Minutes

60 Minutes did a two-part story interviewing Michael Lewis on his new book, The Big Short.  In his book, Lewis details how probably only 10 or 20 people in the entire financial sector knew what was going to happen, and how Wall Street nearly created its own demise.

In the 60 Minutes piece, Lewis describes how, at a result of the financial crisis, many people think that everyone on Wall Street were just a bunch of crooks and knew that they were getting themselves into.  So the post-trauma reaction would be to punish a few banking CEOs and the problem will be taken care of.

However, according to Lewis, it’s quite the contrary – the financial meltdown is probably much closer to an example of mass delusion.  Everybody just kept thinking it was going to keep going – until it didn’t.

Probably the most telling part (at least in my mind) is where he describes the incentives that the financial industry operate under on Wall Street.  I am a strong believer that people make decisions based upon the incentives and disincentives in their environment – change the rules of the game and you’ll change the behavior.

Here’s what Lewis had to say on this topic:

 “Wall Street is able to delude itself because it’s paid to delude itself.  That’s one of the lessons of this story is that people see what they are incentivized to see.  If you pay someone not to see the truth, they will not see the truth, and Wall Street organized itself so people were paid to see someone other than the truth. 

And that’s one of the central messages of the story, you have to be very careful how you incentivize people, because they will respond to the incentives.”

Also described is how Michael Barry, an independent manager of a hedge fund, made $725 million on the credit default swaps that were created to “insure” the subprime mortgages that eventually defaulted.  He was able to do this by examining – by himself – the public information about the declining creditworthiness of these financial products.  Anyone, especially the bond rating agencies, should have been able to see this for themselves, but the Wall Street community was collectively blinded to the reality of the numbers that Barry was able to spot.

(Turns out Barry only has one good eye himself, and he wasn’t blind to this oncoming catastrophe…)

Lewis credits Barry’s ability to take advantage of this as “not being part of the collective”.  Even though Wall Street could have (and should have) seen this as well, they had different incentives at work than Barry did.  He was incentivized to look at the numbers rationally, and he profited from them – Wall Street was incentivized to keep the profit center going as long as they could, which they did, and it almost took the world’s financial markets down with it.

Change the incentives and you’ll change the behavior. 

Lewis is the author of 13 best selling books including Liar’s Poker and Moneyball.

You can watch the two-part 60 Minutes interview here

Get My Newest Articles In Your Inbox

Subscribe to get my latest articles from Decisions & Discovery by email.

We won't send you spam. Unsubscribe at any time. Powered by ConvertKit

I currently serve as Vice President of Decision Science at CenturyLink. I've previously served as a leader in the Advanced Risk & Compliance Analytics (ARCA) practice at PwC and as Director of Data Science & Analytics Engineering at Areté Associates. I've served the public as Chair of the Thousand Oaks, CA Planning Commission. I have been married to my wife Stephanie since 1993, and we have a wonderful daughter Monroe. Learn more about me »

Please note: I reserve the right to delete comments that are offensive or off-topic.