There are very few people who know how to explain complex things in very simple terms that any layman can understand. In my previous posts I have saluted people like Paul Krugman for explaining Sub Prime bust and Prof. Hans Rosling. Here in an excerpt from an interview Mohamed El-Erian, CEO of PIMCO gave to Fortune where he explains very well the 2008 banking crisis.
What really happened back then?
You go to a McDonald’s. You order, you go to one window, you pay; you go to the next window, you pick up your food, and you go. You normally can do it within 30 seconds.
Now imagine the following. There’s a payment window where you pay, and there’s a settlement window where you take the burgers. Now imagine that you go to the first window, and they tell you, $5. You say, “Where’s my food?”
And they say, “It’s at the next window.” You say, “I heard what happened at Lehman yesterday. At Lehman someone paid but didn’t collect. So I want my food now.” And they say, “I can’t give you your food now.”
The whole system is built on trust — that you’re going to trust for 10 yards. And you say, “Well, that’s what Lehman did. I’m not going to do that.”
Now what happened to that system? First, you go away hungry even though you had money. And the second window has the food but can’t sell it, so the food goes rotten. The system breaks down because no one trusts 10 yards between the first window and the second window.
That is what happened after Lehman. It was the most amazing thing, where nobody trusted what we all take absolutely for granted, and therefore you couldn’t match people up. That’s why we saw these amazing collapses around the world.