Banks and investment funds may believe they are deriving income from new production, and their individual ‘risk models’ will show that they will survive most conceivable financial shocks because of the diversification of their portfolios. But their incomes are ultimately transfers from other financial firms, and can suddenly dry up when one firm’s inability to meet a transfer obligation (defaulting on a loan, or withholding a dividend) forces others to do so in turn. That is what happened when Lehman Brothers, the American investment bank, collapsed in 2008, thereby precipitating the financial
...more
