Thanks for that report.we will be talking to you obviously throughout this news cast i wanna bring somebody in now i am really excited about having in this show. He is totally different from most of the people that we talk to. He 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 Khan, thanks for being with us from Khan Academy by the way. Basic question, explain to our viewers, explain to the million people out there. what is actually broken that we need to fix. Right! right now we have so many, stock market goes down every day and people having for closures and banks are stopping lending. so it is really hard for the people to keep track what is the problem. Are these causes of the problems or they the actual problems. so i think we did a step back to a durdle diagram here let's put it up, durdle diagram here and i think there is this basic fundamental question here that we all have to ask is 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 animals,that could be cash and what you need to do in order to make the economy grow is to invest that capital into projects, build factories plough seeds,hire people and what the financial system does. the banks and the markets, they take that capital and hopefully they allocate it on projects that put people to work, hire people, grow our GDP. The problem right now is, as opposed to financial system putting more capital into the real world, it's more concerned with self-preservation at the moment. they are in a kind of survival mode and because they are 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 financial system because it's essentially in survival mode. so, i see the financial system in the middle why is that piece broken Draw that one up first. sure, and here i am going to attempt to get everyone to a five-minute MBA but essentially what i have drawn here are balance sheet for some banks and it might sound like a complicated term but a balance sheet is, i think something that most people are fairly familiar with when they talk about the home equity so if i will draw a balance sheet for someone's house it would look something like this so the asset would be your house whatever its worth and then your liability and would call 'A' for asset and then your liability would be the mortgage your liability would be the loan. now if your house is worth of a million dollars and your loan let's say you owe $8,000 in your loan whatever is leftover is your equity, that's the balance sheet which most people are fairly familiar with. The corporations have exact same notion and i think it's the important point to realise when people talk about the stock market and what does it mean a company starts to go to zero.
when you buy a stock in a company you essentially are not buying a share in all of its assets, you are buying a share in its equity so,if you look at the two banks and i would talk about more what is broken but a bank has assets and a bank has liabilities for which you take some of the assets and you subtract the liabilities what's leftover is essentially is the equity and you buy stock in a bank or in any company you essentially are taking a share of that so what's broken here is through the housing bubble a lot of these banks in order to facilitate this whole securitization, i can go into more detail what that is essentially accumulated these assets on their balance sheets and this has been the central focus of the entire bailout plan and there has been a lot of talk about Toxic CDOs and what are they i just wanna show 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 what you see here i drew the kind of height on this left hand side of the asset, the height's right hand side is liability, what's leftover is equity.
if these Toxic CDOs are worth nothing if this disappeared and then all of a sudden your assets are less than your liabilities. if you 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 is no reason why anyone should be lending to you because you are essentially throwing good money after bad so essentially, the situation the banks find themselves in is the same as the as one homeowners would have found themselves in as a result of that. pretty much, as homeowner you have an asset which is worth less than your liability. what you do you try to get someone to bail you out and buy your asset for more than its worth or you just claim bankruptcy. that's all for now, we gonna comeback in just a little bit and continue our conversation. we will also be bringing you you something that is very exclusive to this particular hour on the CNN the story of kerbal, who is kerbal he may just be the only person which administration used as their source for going to war in Iraq or certainly as much as anyone else. was he right? no, who is he? no one knows upto now, an exclusive interview with kerbal,stay with us we will be right back twitter.com/ricksanchezcnn so many of you… 23000 i believe when we last checked are talking to us, watching this newscast as well as on Myspace and facebook infact we have somebody on My space righ now. she is watching our show and just wanna us to know this she says my son is 17 and excited about college. i am worried that we won't be able to get a loan to send him now. My husband hours have been cut from work as well. This absolutely affects all of America
And that's why we are doing what we are trying to do for you. let's go back now and bring in Sal, if we can, Sal Khan He explained to us a few moments ago 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 the government has been in what is the government actually doing, explain that to us so we can understand like a fifth grader. Right, so the main problem as to picture wise, no one is lending to each other so what the government at least said what they wanted to do is try to get the lending start again so their bailout plan was essentially, let's buyout these Toxic CDOs because if i am a good bank they didn't get involved in this. if the bank is holding these Toxic CDOs. i am not sure if bank a) should be bankrupt if the Toxic CDOs are worth nothing or b) may be there are good for the money so there is a lot of uncertainty of what these are of worth. the government at least what they said it would do if they went in it will essentially reverse these auctions and bought these assets. then that all of a sudden would give confidence in these banks. and there wouldn't be uncertainty as to whether you can loan the money and may be that will free up the credit the whole system again well,will it work? probably not, if you think about what's going to happen psychologically so bank A let’s say, if you just switch these Toxic CDOs and if you just turn that back into cash because the government just bought it for exactly what the bank A says it's worth so if you just turn this into cash, the question is the bank A all of a sudden is going to start lending and a couple of things to think about because of the size of the Toxic CDOs there are other things on its balance sheet and frankly, a lot of these things are starting to get a little bit Toxic. Nobody is talking about them right now because if you have a debt continuing how you gonna notice the milks going bad so essentially,
you have a lot of assets on your balance sheet right here and if you are a prudent bank manager you are going to see you gonna say i will just keep that cash because if turn Toxic because the economy might be turning slow 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 would give them capital and process new version of the plan then essentially they will inject equity. so buy stock, if you buy stock you will essentially make this pile bigger and put some cashier here but even this guy, the good bank is not so clear to me that he will actually start lending everyone is in survival mode this isn't the time to make new loans and take on new roles so it seems like when govt. went in and they decided what we gonna do, we gonna go and help these guys out. as soon as we will help them out everybody will realize now they have the government backing so other people would be interested in helping them. more people would give them their money that hasn't worked. the people and other investors haven't gone into that.
when we come back, i wanna 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 you and i have talked about this but i wanna you to be able to show to our viewers.
also kerbal the story we would have been telling you, this is going to be CNN exclusive to this hour about one particular individual who no one has ever talked to before, he speaks German and Arabic. you will hear his conversation here in next 10 minutes.
be right back now we understand what actually is broken. we got a sense that government tried to do to fix it but it doesn't seem to be working because people/ investors and regular folks don't seem to be buying into it. let's bring in Sal Khan once again from Khan Academy and talk about what may be done either a) would have been the original plan it would have worked a lot better or b) something we can still do now and that's. so the big picture, going back to the big picture, in the financial system no one is lending through. every bail-out plan so far as governement keeps injecting money either through loans either through buying assets may be more than the worth or may be buying stocks. and the logic here is that may that will start up the lending but most probably any new money you put into the system, for the large degree it's going to go into the survival mode or it's gonna go to essentially make up mistakes which already have been made so one idea and this actually came from a friend of mine Tard Plusky it sounded crazy when he first said it but actually sounds like really good idea is, take that $700 billion, remember the problem isn't you are not trying to save the financial system, you are trying to save the pipe, the goal from the capital to projects so why not take the 700 billion and capitalize the brand new financial system and one thing that Tard has pointed out 700 billion is 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 combine so government could overnight create banks bigger than those banks and i don't think they should concentrate on these five or six banks so in other way, you are saying why try and put money into something that is so absolutely messed up. if they have dead let them die. create a new system altogether and that won't be a problem too because those banks we own by the government, do we want them back?
no and this is the solution and first of all just to make the point clear the policies' current solution involves government ownership, in this plan what you could do government can capitalize the banks may be 20 or 30 banks around the country with the $700b and then each of those banks could have 300 million shares and they give one share to every American new banks, totally new banks.. interesting Sal Khan, we will keep you on we gonna be talking about this throughout the hour obviously, we are trying to get the people who can explain some of these things what's the market doing right now
let's have a look as we past weekend. down 71 a lot better than what we were looking at an hour ago may be you were heard Sal in some piece hopefully, we gonna come back to that hopefully
but obviously one of the key stories we have been serving throughout the day. the story of Kerbal the man who have been the source, the influence of the invasion of Iraq as we expected Sal Khan is a bit of heard, that’s thing kind of differently. doesn't it? a lot of you have comments and questions including this one
let's go and pick some this one comes from Sanchfan he watches this show a lot like everyday he says
keep Khan talking
look the market is going up fairly it had been, I didn’t notice that. we were so engaged in conversation let's do this for a quick i wanna just step away from this for a moment Khan, tell us if you could if we bring it back to the basics how we are being affected by ushering of the news everyday. the credit crunch and the situation of the market.
sure, if we don't unclock the credit system we know it's gonna unlever their debt. so we gonna have deleverage that's essentially everyone on winding their loans. Deleverage, and this is i think is the critical point because there is 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 deleverage, this has happened in Japan this is what happened in thirties, the money supply contracts. that's our printing press the leverages are printing press and that affect the credit system and that's gonna lead to deflation so i think a lot of people are worried about we gonna see inflation or we gonna see the deflation and if we don't fix the problem we gonna see like Japan saw deflation what deflation means concretely to me and you. Things get cheaper, the opposite of inflation. unfortunately, may be salaries go down. but on the plus side,a lot of assets like people buying houses would get cheaper that probably won't be a good thing in a short term yeah exactly, now i can understand what the situation is right now.thank you Sal Khan you have been a great guest
what an original way of being able to explain things thank you we will be right back