If you're seeing this message, it means we're having trouble loading external resources on our website.

If you're behind a web filter, please make sure that the domains *.kastatic.org and *.kasandbox.org are unblocked.

Main content
Current time:0:00Total duration:14:36

Video transcript

suzan the soviets thanks for that report we'll be talking to you obviously throughout the course of this newscast I want to bring somebody in now that I'm really excited about having on this show he's totally different from most of the people that we talked to he's gained his fame on YouTube of all places where people go to see how he explains things that many of us frankly don't understand so let's start with the basics Sal Kahn thanks so much for being with us from the Kahn Academy by the way a basic question explain to our viewers explain to the million people out there what is actually broken that we need to fix right and and and right now we have so many the stock market goes down every day and people are having foreclosures and and you know banks are stopping lending and they're failing so it's really hard for people to keep track of what is the problem is are these just causes of the problem or the actual problem so we I think we need to take a step back and I've drawn a little diagram here let's put it up draw a little diagram here and I think there's a basic fundamental question that we all have to ask and and what does the financial system do they make a lot of money hopefully they add some value to our economy and this diagram essentially explains what the financial system does so in a capitalist economy you have a lot of people with capital that could be land that could be gold that could be I don't know animals that could be cash and what you need to do in order to make the economy grow is invest that capital into projects build factories of plow seeds hire people and what the financial system does the banks and the markets they take that capital and hopefully they allocate it on on projects that actually put people to work hire people grow our GDP the problem right now is is as opposed to the financial system actually putting more capital into the real world it's for the most part more concerned with self-preservation at the moment they're kind of in survival mode and because they're in survival mode you don't have this flow of capital going from whoever has it to the financial system and then to the projects you pretty much have everything just going back into the financials because it's in essentially finite survival mode so I see the financial system in the middle that why is that piece broken explore all out one up for us sure and and here I'm going to I'm going to attempt to give everyone a five minute MBA but essentially what I've done here is our balance sheets for some banks and and it might sound like a complicated term but a balance sheet is I think something that that most people are fairly familiar with when they talk about home equity so if I were to draw a balance sheet for someone's house it would look something like this so the asset and would be your house whatever it's worth and then your liability and I'll call that a for asset and then your liability would be your mortgage your liability would be the loan mm-hmm now if your house is worth a million dollars and you're alone let's say you owe 800,000 on your loan mm-hmm whatever's left over is your equity right that's a balance sheet that's a balance sheet that I think most people are fairly familiar with for corporations they have the exact same notion and I think this is an important point to realize when people talk about the stock market and what does it mean for a company stock to go to zero when you buy a stock in a company you're essentially you're not buying a share in all of its assets you're buying a share and it's equity so if you look at so I drew two banks here and we'll talk a little bit more about what's broken but a bank has assets and a bank has liabilities and with you if you take the sum of the assets and you subtract out the liabilities what's left over is essentially the equity and when you buy a stock in a bank or any company you're essentially taking a share of that so what's broken here is through the housing bubble a lot of these banks in order to to facilitate this whole securitization I can go more detail into that what that is they essentially accumulated these assets on their balance sheets and this this has been this has been thus the the central focus of the entire bailout planning and there's been a lot of talk about toxic CDOs and what are they worth but I just want to show you what they do to a bank's balance sheet and why it's so important that we figure out what these things are worth because you see here I drew the the you can kind of view the height of this left-hand side as the assets the height on the right hand side of the liabilities what's left over is the equity if this to these toxic CDOs are worth nothing if this disappeared then all of a sudden your assets are worth less than your liabilities when your house is worth less than your mortgage then you have no equity in that situation your stock would be worthless and in that situation there's no reason why anyone should be lending to you because you're essentially throwing good money after bad so essentially the situation that the banks find themselves in is the same as the one that homeowners had found themselves in as a result of this pretty much the homeowners you have an asset that's worth less than your liabilities what do you do do you try to get someone to bill you out and buy your asset for more than it's worth or do you just declare bankruptcy let's hold off right there we're going to come back in just a little bit we're going to continue that conversation and we're also going to be bringing you something today that's an exclusive to this particular hour on CNN the story of curve ball who is curveball he may just be the only person that the Bush administration used as their source for going to war in Iraq or certainly as much as anyone else was he right know who is he no one's known up to now an exclusive interview with curveball stay with us we'll be right back three.com slash Rick Sanchez CNN so many of you 23,000 I believe when we last checked are talking to us watching this newscast as well as on MySpace and Facebook in fact there's somebody on MySpace right now she's watching our show and she just wanted us to notice he says my son is 17 years old and excited about college I'm worried that we won't be able to get a loan to send him out my husband's hours have been cut back from work as well this absolutely affects all of America and that's why we're doing what we're trying to do for you let's go back now and bring in Sal if we can Sal Khan he explained to us moments ago what what it is that is actually the problem what it is that is broken now let's take the next step let's try and understand because everyone seems to be wondering I don't understand this bailout / rescue plan that the government has been in what is what is the government actually doing explain that to us so we could understand it like a fifth grader right so the the main problem just to take the big picture was that no one's lending to each other so what the government at least said that they wanted to do is try to get the lending started again so their bailout plan was essentially let's buy out these toxic CDOs because if I'm let's say I'm a good bank that didn't get involved in this if Bank a is holding these toxic CDOs I'm not sure if Bank a should be bankrupt if the toxic CDOs are worth nothing or maybe they are good for the money so there's a lot of uncertainty on what these are worth the government at least what they said they would do is if they went in and essentially did these reverse auctions and bought these assets then that all of a sudden would give confidence in these banks people wouldn't there wouldn't be uncertainty as to whether you can loan them money and maybe that'll free up the credit the whole system again will it work probably not if you think about what's going to happen psychologically so Bank a if you were to let's say that you know if you were to just switch this toxic CDOs and if you were to just turn that back into cash because the government just bought it for exactly what Bank a says it's worth so if you just turn this into cash the question is is Bank a all of a sudden going to start lending and there's a couple of things to think about because besides that toxic CDO there were other things on its balance sheet and frankly a lot of these things are starting to starting to get a little bit toxic really talking about them right now because you know if you have a dead skunk in your house you're not going to notice that the milks gone bad so so essentially you have a lot of assets on your balance sheet right here that if you're a prudent bank manager you're going to see you're going to say boy I should just keep that cash because if these turn toxic because the economy might be turning south or for whatever reason I should just hold on to that cash so that I don't go bankrupt so everyone is in complete survival mode even the good banks if somehow you were to give them capital and the Paulson's new version of the plan is that essentially they'll inject equity so buy stocks if you buy stock you will essentially make the pie bigger and put some cash here but even this guy the good bank it's not so clear to me that he'll actually start lending everyone is in survival mode this isn't a time to make new loans and take on users so it seems like the government went in and they have decided you know what we're going to do we're going to go in there and help these guys out as soon as we help them out everybody will realize that now they have the government's backing so other people will be interested in helping them more people will give them their money that hasn't worked that the people and other investors haven't bought into that when we come back I want to hear your idea of what perhaps the government should have done or could still do to rescue this it's unique it's different and the you and I have talked about it earlier but I want you to be able to share it with our viewers also curveball the story that we've been telling you about this is going to be a CNN exclusive to this hour about one particular individual who no one has ever talked to before he only speaks German and Arab you'll hear his conversation here in the next ten minutes stay with us we'll be right back all right so we understand now what actually is broken we've got a sense of what the government tried to do to fix it but it doesn't seem to be working because enough people slash investors and regular folk don't seem to be buying into it let's bring in Shao Kahn once again from the Khan Academy and talk about what may be done either a would have been the original plan that would have worked a lot better or something we could still do now and that is so the big picture just going back to the big picture is that the financial system no one's lending through right right and every bailout plan so far the government is just keep it just keeps injecting money and either through loans either through buying assets for maybe more than they're worth or now buying stock and and and the logic here is is maybe that'll start up the lending but most probably any new money that you put into the system to large degree is because just going to go into survival mode or it's going to go to essentially make up mistakes that have already been made mmm so one idea and this actually came from a friend of mine todd watski and actually think it sounded crazy when he first said it but it actually sounds like a really good idea is take that seven hundred billion and remember the problem isn't you you're not trying to save the financial system you're trying to save the pipe that goes from the capital to the project so why not take the seven hundred billion and capitalize a brand-new financial system I mean and and one thing one thing that Todd had pointed out seven hundred billion it's an astronomical amount of money that's more than the book value of the equity book equity is this piece right here on the balance sheet then JP Morgan Morgan Stanley Goldman Sachs Washington Mutual Wachovia and Bank of America combined so the government could overnight create banks bigger than those banks although I don't think they should concentrate it all in five or six banks they should so in other words you're saying why try and put money into something that is so absolutely messed up if they're half dead let them die create a new system altogether but wouldn't that be a problem too because then written those banks be owned by the government do we want that no and and this is this is the solution and and first of all just to make a point clear the Paulson's current solution involves government ownership this plan what you could do is the government could capitalize the banks maybe twenty or thirty banks around the country with the 700 million dollars and then each of those banks could have 300 million shares and they could give one share to every American new banks new totally new banks interesting Sal Khan thanks so much we'll keep you on we're going to be talking about this throughout the hour obviously we're trying to get people to get and explain some of these things for us and what's the market doing right now let's put that let's make that as big as we possibly can down 71 a lot better than we were looking at an hour ago maybe you had a cell in some faith hopefully all right we're going to come back to that and not just a little bit but obviously one of the key stories that we've been saving for you today the story of curve ball the man who seemed to have been the source of the influence in the invasion of Iraq as we expected Sal Khan is a bit of a hit does things kind of differently doesn't he and a lot of people have a lot of comments a lot of questions for but including this one let's go ahead and take a Twitter Brook we possibly can this one comes in from San Fran yeah he watches this show a lot like every day he says keep Kahn talking if the market is going up apparently it had been I hadn't even noticed that I was so engaged in the conversation let's do this real quick I want to just step away from this for a moment let's your thanks so much Sal Khan standing by she'll tell us if you could I guess bring us back to basics how are we being affected by what we're seeing in the news every day the credit crunch in the situation with the market sure if we don't unclog the credit system we know that every was going to unlevered their debt so we're gonna have D leverage mmm that's essentially everyone unwinding their loans D leverage and this is I think a critical point because I think there's been a lot of misinformation out there that actually contracts the money supply so a lot of people out there are worried about inflation these deficits that lead to inflation but when you have D leverage and this is what happened in Japan this is what happened in the 30s the money supply contracts that's our printing press leverages our printing press international reserve system and that's going to lead to deflation so I think a lot of people are worried about how we're going to see inflation are we going to see deflation and if we don't fix the problem we're going to see what Japan saw and we're going to see deflation and so the place of deflation means what concretely to me and you things things get cheaper the opposite of inflation so a unfortunately B salary we'll go down but on the plus side a lot of assets you know people buying a house they'll get cheaper even I know that that probably won't be a good thing in the short term yeah exactly not with what situation is right now thanks so much Don you've been a great guest what an original way of being able to explain things we're going to be right back with the closing bell which looks to be somewhere in the middle of