In his interview with the Financial Crisis Inquiry Commission, Warren Buffett explained that the housing bubble leading to the financial crisis was fueled by a pervasive belief that house prices couldn’t decline. This belief, embedded in psychology and reality, became widely accepted by the media, investors, mortgage bankers, the public, and Congress.
It started as a sound premise but distorted over time as people focused solely on rising prices. Housing, being the largest and easiest asset class to borrow against, drove the bubble to unprecedented levels.
Buffett likened it to historic bubbles like the South Sea and tulip-bulb bubbles, emphasizing its scale and lasting significance in financial history.
Here’s an excerpt from the inquiry:
Buffett: It didn’t cause it, but there were a vast number of things that contributed to it. The basic cause, you know, embedded in psychology ––
partly in psychology and partly in reality in a growing and finally pervasive belief that house prices couldn’t go down, and everyone succumbed –– virtually everybody succumbed to that.
But that’s –– the only way you get a bubble is when basically a very high percentage of the population buys into some originally sound premise and –– it’s quite interesting how that develops –– an originally sound premise that becomes distorted as time passes and people forget the original sound premise and start focusing solely on the price action.
So every –– the media, investors, the mortgage bankers, the American public, me, my neighbor, rating agencies, Congress –– you name it –– people overwhelmingly came to believe that house prices could not fall significantly.
And since it was the biggest asset class in the country and it was the easiest class to borrow against, it created probably the biggest bubble in our history.
It will be a bubble that will be remembered along with the South Sea bubble and the tulip-bulb bubble.
You can read the entire transcript here:
FCIC – Transcript of Interview With Warren Buffett
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