The most well-known of the movies on the 2008 financial crisis is also the weakest. It is The Big Short, based on Michael Lewis’ best-selling book on the 2008 financial crisis. It is delightful as a narrative of a financial mania and deficient as a treatment of that mania’s underlying causes or a path to future solutions.
There’s no question that the movie was pushed as the go-to film for the key economic event of our times. Two New York Times film critics believed the film should have been considered for a best-picture Oscar. Paul Krugman agreed, writing: “I think it does a terrific job of making Wall Street skulduggery entertaining.… The movie gets the essentials of the financial crisis right.”
Why Market Skeptics Like It
Krugman and friends liked the film because it leaves out any discussion of the main culprit behind the financial crisis, which was not Wall Street greed but bad monetary and credit policies of the Federal Reserve and the federal government. The movie barely hints at any factors behind the boom or bust not having to do with bad motivations.
So the pro-regulation crowd cheered. Viewers are given no understanding of the real causal factors and hence fill in the missing background with a feeling that banks just love ripping people off in order to feed their greed.
To be sure, if you approach this movie with some knowledge of economics and monetary policy, the rest of the narrative makes sense. Of course Wall Street got it wrong, given Washington’s policies on mortgage lending.
However, if this were your only exposure to the history of the crisis, and knew nothing beyond it, it is easy to see how you could walk away thinking: “Wall Street and the capitalist system are rackets that desperately need controlling by a powerful government.”
Yet it’s an odd message to read into the story since the movie also nicely shows how the large banking firms, investment houses, rating agencies, and regulators all worked together, riding the boom as high as possible and delaying the correction until the last possible moment.
How new regulations would fix this is not entirely clear. Who regulates the regulators?
The Merit of the Movie
The Big Short’s biggest virtue is its explanation of the exotic financial products that made such a splash before the bust. It does a terrific job in explaining how a mortgage-backed security works and how it mutated into a collateralized debt obligation and then into a “synthetic CDO,” fobbed off on the markets as a quality investment.
As a pure piece of expository journalism, it performs a great service of stripping away the then-fashionable flimflam to reveal the underlying unsoundness of the housing bubble and financial boom of the 2000s.
Plus, any movie that can make financial markets and business cycles compelling is worthy of honorable mention at least. Such movies remind us how central economics is to the story of our lives. Economics is the theoretical template for understanding how human beings are faring in the struggle against poverty, insecurity, disease, and early death, which is why the subject is worthy of study by everyone.
There’s another thing to love about The Big Short. It subtly turns short sellers — the pessimists who bet against ever-rising financial valuations — into heroes. It’s about time. They have been demonized since the New Deal as enemies of the people. This movie shows that they are people willing to stick their necks out based on a contrarian opinion, and thereby perform the valuable service of tempering exuberance when it is unwarranted.
Strangely, the film rails against the greed and wealth of most of Wall Street, but ends up celebrating a handful of expert speculators who made billions betting against millions of unqualified home buyers. Perhaps unintentionally, The Big Short defies decades of harsh rhetoric about short sellers, turning them into geniuses that deserved every bit of their earnings.
Krugman asks whether the movie gets the story right. His answer is yes, though he cautions that the causal links are not always made explicit. He is right about that. The Big Short is a great story without a coherent theory. Whatever theory you bring to the movie is the theory you will find reinforced by the narrative.
Krugman’s left-wing Keynesian perspective can be read into the movie, but so can the market-based story of how the crash of an artificially inflated housing sector brought down some of the most powerful players on Wall Street. The Big Short is a kind of Rorschach test for one’s underlying theoretical presuppositions.
Without a robust theory, The Big Short treats most of the trading activity before the crash as little more than malicious scamming. The traders (this story goes) thought they had found some magic pathway to infinite wealth and became horribly cynical about it all, pushing worthless securities on unsuspecting buyers. It’s this perception that has been behind the calls for criminal prosecution for the heads of banks and brokerage houses.
For a more realistic look, and a more humane understanding of the way financial markets work, the 2011 film Margin Call provides an excellent look at one dramatic day from the inside of a money-management firm. Here let me admit my own personal obsession with this movie; I’ve probably seen it 25 times. Yes, I'm a groupie for this film.
The film shows that these firms were not, on the whole, driven by criminal malfeasance. Instead, they were obeying (and trying to anticipate) the market signals they had on hand, as is their job. They had cobbled together a model that presumed that past behavior would persist into the future. This model worked — until it did not.
Once it became clear that bond markets were testing the limits of the models, the firm decided to become the first one out the door. At this point, it was a matter of life and death of the business. The rush to get out before the crash led to vast selling of soon-to-be worthless securities at current market prices. When the securities fell to a price of zero, heads rolled — and then the most powerful players in the industry were bailed out by politicians driving truckloads of taxpayer cash.
In the quasi-fictional case of the firm in Margin Call, traders were paid heavily to sell what they believed were going to be worthless financial products — worthless not because they didn’t represent something real but because the markets were coming to discover that the products bundled too many debt obligations with sketchy ratings together in a single tradeable security. Everyone on the trading floor lost their jobs, and the firm took a huge hit, but it survived because its managers acted with speed and insight.
This film will certainly test your sense of what is right and wrong in high-flying financial markets. Jeremy Irons, playing the role of the CEO, has a memorable and quotable line: "There are three ways to make a living in this business: be first, be smarter, or cheat. Well, I don't cheat. And although I like to think we have some pretty smart people here in this room, it sure is a hell of lot easier to just be first."
Margin Call shows that the financial market was working as it should, following the profit-and-loss signals where they were pointing at the time. The movie is also just as interesting as The Big Short, if not more so. The drama is intense and thrilling for anyone with the slightest interest in finance.
Special bonus here: a short history of financial panics, with a bit of shade at the end.
So you think we might have put a few people out of business today. That it’s all for naught. You've been doing that everyday for almost forty years, Sam. And if this is all for naught, then so is everything out there. It’s just money; it’s made up. Pieces of paper with pictures on it so we don't have to kill each other just to get something to eat. It's not wrong. And it's certainly no different today than it’s ever been. 1637, 1797, 1819, ’37, ’57, ’84, 1901, ’07, ’29, 1937, 1974, 1987 — Jesus, didn't that f*** up me up good — ’92, ’97, 2000, and whatever we want to call this. It's all just the same thing over and over; we can't help ourselves. And you and I can't control it, or stop it, or even slow it. Or even ever-so-slightly alter it. We just react. And we make a lot money if we get it right. And we get left by the side of the side of the road if we get it wrong. And there have always been and there always will be the same percentage of winners and losers, happy foxes and sad sacks, fat cats and starving dogs in this world. Yeah, there may be more of us today than there's ever been. But the percentages, they stay exactly the same.
The question that neither The Big Short nor Margin Call addresses is the one everyone should be asking: how did so many smart people get it so wrong for so long? Here is where we must deal with the delicate signaling system of interest rates and the way they came to be so distorted through Fed policy, subsidized lending, and the recklessness of traders in the face of too-big-to-fail policies.
The Money Machine
To understand this, we must leave the realm of fun “based on a true story” movies and point to a more serious documentary. The best one available is Money for Nothing: Inside the Federal Reserve (2013). This documentary interviews top Fed officials in Washington, D.C., and the regional banks. It follows the careers of Alan Greenspan and Ben Bernanke and their shifting views on the proper role of monetary policy.
Here we find the proof of the real source of the problem. Following the terrorist attacks on September 11, 2001, and through the wars that followed, the Fed embarked on its first round of stimulus as a matter of funding the spending spree and demonstrating national resilience.
The Fed started dropping rates, further and further, subsidizing lending and promoting a wild anything-goes atmosphere. Government-backed lending agencies were pushed to become buyers for any and every new mortgage. Homeownership itself had become a doctrine of the civic religion, and the whole of the regulatory, monetary, and bureaucratic state was there to enforce it.
The result was a mass cluster of errors going up and another cluster of errors coming down. This is precisely what cries out to be explained. Of course, market traders can be wrong. But why was almost everyone wrong? Why were their errors centered on housing and not some other sector? And why were they wrong on housing in this period and not previously? Any explanation that does not deal with these questions directly is not really getting to the core of the problem that needs to be explained.
Depending on the knowledge you bring to it, The Big Short, as entertaining as it is, can be extremely misleading — not wrong, just incomplete. Anyone who tries to sell an explanation of the 2008 financial crisis that does not mention the Fed is no more trustworthy than a trader who offered to sell you a mortgage-backed security at top dollar in 2007.
Why should we care about how the 2008 crisis is interpreted? As with the 1929 crash, the story we tell has much to do with the policies that are created later. If 2008 was the failure of capitalism, massive new regulations, controls, and taxes might make sense. If 2008 traces to centralized mismanagement of money and banking, a very different policy follows.