Since the Great Depression of the 1930s, states and market actors have codeter­mined the structure of financial markets (Preda, 2007).

In the case of the market for home mortgages in the United States, the federal government played a criti­cal role creating the modern version of that market by inventing the convention­al mortgage, limiting interest rate payments on deposits, and creating depository insurance to make sure that banks were solvent.

One of the most dramatic aspects of the relationship between financial mar­kets and the government has been around how the government responds to mar­ket crisis. Financial markets get set up to produce certain kinds of products. Inevitably, those markets produce some kind of market crash, and the govern­ment is there to pick up the pieces and help reorganize the market. In such cri­ses, they have worked to stabilize banks that are illiquid by providing them with short-term funding. They push for those who were insolvent to be liquidated or merged. Usually after every episode of financial collapse, the government creates new rules and regulations to prevent what just happened from happening again.

The government can also act as an innovator of products and processes and the creator of new kinds of organizations. Then the cycle begins anew.

Financial institutions play a dominant role in creating their own conception of what the “new” market is and how to build product, process, and organization to aggressively pursue that opportunity.

While this is sometimes self-serving, the conditions that created a market in the first place sometimes change so much that it entirely makes sense to try something new. Regulations put into place in the last crisis eventually run up against new challenges. For example, the high inflation and interest rates of the 1970s essentially destroyed the business model of the savings and loan indus­try. The industry convinced the federal government to let them try to save their business model by letting them pay higher interest on savings accounts that were now insured for larger deposits. This let banks make riskier loans. As we know now, it all turned out to be a disaster.

Financial institutions, particularly the largest commercial banks, lobbied be­ginning in the 1970s to have Depression-era restrictions removed. They argued that removing those restrictions would allow them to be larger and more effi­cient. This, they claimed, would expand new markets, create credit opportunities for borrowers and the providers of capital, and control risk by spreading it across participants with different risk profiles. By and large, the federal and state gov­ernments have listened to the largest banks and allowed interstate banking and the breaking down of the barriers between financial products and the firms that have delivered them (i.e., savings and loan, commercial, and investment banks).

Financial institutions have used these opportunities created by themselves and government to expand their businesses and find new and innovative ways to make money. But the effect of these product expansions and financial innovations can be to create speculative asset bubbles (Minsky, 2008). Unfortunately, it is diffi­cult to tell as markets are zooming upward and expanding rapidly whether the ex­uberance is irrational or not. The line between being aggressive, predatory, illegal, or stupid is easy to see after the fact and hard to see while the party is raging. For example, was it irrational when banks shifted in 2003 from pursuing conventional to nonconventional mortgages as the conventional mortgage market dried up? One has to remember that for two years, this proved to be a very profitable strat­egy. We now know what happened next, but in the moment, it would have been harder to make the case that what was going on was simply irrational exuberance.

It is always difficult to see exactly how the problem of an asset bubble form­ing can have large and really negative consequences for the whole economy and the livelihoods and wealth of citizens. Asset bubbles can form in all forms of assets including stocks, bonds, houses, cryptocurrencies, commodities, and col­lectibles. This means that understanding how a particular asset bubble actually works is not a matter of theory but a matter of taking a deep dive into data that is often difficult to gather and hard to interpret. That data requires expertise, what might be called local knowledge, to see what is really going on and how what is going on might end up in disaster for all.

To make matters worse, such expertise is often tied up with the industry where the rapid expansion of the market is going on.

The economics profession also agreed that barriers between financial services should come down and financial institutions should compete in any business they chose. The dominant theme for economists who studied banks in the 1990s was that the conglomerate bank was the future of banking. They argued that banks were well positioned to be in many businesses, and they would attain syn­ergies from their participation in retail banking, loans, credit cards, mortgages, insurance, investment banking, and the trading of securities. By the time the government repealed the Glass-Steagall Act in 1999, the consensus among all economists was that financial services were about to enter a great period of inno­vation and positive ferment. Government oversight was unnecessary because the new financial tools allowed banks to control and diversify their risks and insure themselves against potential downsides.

By 2001 and the refinancing boom in housing, the consensus between the experts and the financial services industry was that all was good. The oppor­tunities afforded by low interest rates and the ability to originate and securitize mortgages created a large, dynamic, and rapidly growing industry that produced products that both the buyers of homes and the buyers of securities found prof­itable. It would have been difficult in the boom days of 2001-2005 to find anyone who was seeing a “Minsky moment.” As I have shown, the people in charge of looking for just such a bubble thought in 2005 that housing prices were not too high and that even if they declined 20 percent, the macroeconomy would suffer only marginally.

Finally, in any asset bubble, it is not clear how far the trouble will spread. So it may be the case that a few large and aggressive banks who might be thought of as “bad actors” are the ones who bear the brunt of the punishment when asset pric­es fall. This situation is the most manageable, as regulatory authorities can step in and make sure that an orderly reorganization occurs. The case of Bear Stearns shows this process. The Federal Reserve thought their fixing of the Bear Stearns problem worked, and the fact that financial turmoil briefly appeared to recede in the spring of 2008 suggests they were not entirely incorrect.

But the breaking of asset bubbles might become a systemic problem whereby the firms in an entire industry might be implicated and suffer huge losses. This kind of systemic failure is what happened in 2007-2009 in the mortgage securi­tization industry. The system was so overstretched in 2005-2007 that in order to keep their securitization machines going, as I have shown, almost all of the ver­tically integrated large financial institutions committed massive mortgage and securitization fraud. This systemic crisis is harder to observe and control. When banks doubled down and pushed for more mortgages, they relaxed lending stan­dards and committed massive and systemic mortgage and securities fraud. This might have been the moment for intervention, but again, this is easy to see in hindsight.

The most difficult thing to perceive is whether a systemic crisis in part of the financial system is so interconnected with the rest of the economy that it creates a general economic crisis. The collapsing financial industry in the fall of 2008 made obtaining credit for anyone in the economy difficult. The unintended consequence of this was to choke off businesses and cause the stock and hous­ing markets to collapse, thereby destroying a great deal of wealth and reducing household consumption. This resulted in mass layoffs and created a cycle where­by the economic decline spiraled downward.

It is easy now to see how the economy fell off a cliff as the credit markets seized up. But in the fall of 2008, after a summer of ominous financial institution failures and the day after Lehman Brothers collapsed, at least half of the FOMC still thought the trouble would be contained. They were prepared to recognize the deep stress in the financial mortgage securitization industry. But they still thought its spillover to the rest of the economy would be manageable. This shows how hard it is to recognize such a crisis even when you have the best data and up-to-date information in the world. It is indeed sobering.

With this in mind, I explore three themes. First, I want to describe briefly how the financial institutions have been reorganized since the financial crisis. The core of large banks has fulfilled the dreams of banking economists in the 1990s. The largest ten banks owned $12.2 trillion in assets in 2018, fully two-thirds of the as­sets of all US banks. These banks now participate in nearly every financial service market. Most of these banks were reorganized during the financial crisis, includ­ing buying or merging with scores of failed banks. My goal is not to consider what the last crisis was so much as to suggest what to look for in the next one. The next crisis will certainly not look like the last one. The nonconventional mortgage market has disappeared, and financial institutions have reduced their dependence on MBSs as investments. By looking at the potential issues involved with this high concentration of banking, one can get a glimpse of what issues might be relevant.

Then, I want to consider what regulators can do. The Federal Reserve re­sponded aggressively and successfully to the systemic crisis that unfolded before them in 2007-2009. They took events as they came and met them with the tools that they had. When it became clear that a global financial meltdown was under­way, Ben Bernanke and his colleagues showed remarkable foresight and acted aggressively (Abolafia, 2020). But their actions came very late in the game.

The events of the crisis undermined the economic consensus about financial innovation and the control of risk and the positive role of finance in the Ameri­can economy. It is clear that the public's view of what happened shows little faith in the experts who all the way to the end were not sure such a crisis was actually unfolding. The problem of understanding systemic risk is really hard. It requires balancing the knowledge of experts whose main employers are the organizations involved in that risk with a deeper understanding of how such dynamics might end up in chaos. It is a deep and difficult problem. Here I have some optimism, as there is evidence that the Federal Reserve has rethought the relationship be­tween finance and the economy and the role of regulators in that relationship. They appear to have learned the lesson that the financial system is systemically important to the rest of the economy, not just as a sector but as the provider of the basic infrastructure to business.

Finally, I want to consider how the financial crisis has opened up the poli­tics of thinking about the relationship between government and business. The past forty years has been dominated by neoliberalism, the idea that government should not actively intervene in markets. This idea has animated American pol­itics for both political parties and been at the core of policymaking since the late 1970s. This idea is now less politically popular at least partially because of the financial crisis. Neoliberalism was certainly one justification for the deregulation of the financial services industry, and because of the crisis, both financial inno­vation and neoliberalism have been discredited.

Now that the mortgage market has been reorganized by the government again, it is useful to consider how that should make us think of the role of gov­ernment in the economy more generally. We need to recognize that government and markets are joined at the hip. But the crux of the matter is that market for­mation is often done at the behest of the largest and most powerful corporations. This means that analysts need to pay attention to who is helped and hurt by any set of state-market interactions. This recognition also undermines the idea that there is one and only one way to efficiently organize a market. Instead, it suggests that there may be alternatives, some that help incumbents and hurt challengers and others that might work differently. My goal here is to generalize some of the lessons that can be learned from this set of events to champion another kind of political economic analysis.