Remember first being introduced to algebra? The concept understandably proves confusing to many students when they’re first introduced to it, seeing x’s and y’s in math problems, first combining the alphabet with mathematics.

Years ago I tutored middle-school students having difficulty understanding the notion of algebra. The idea of incorporating letters with numbers seemed alien to them. However, with some work, they quickly began to see that the letter in the problem is merely a replacement for some unknown number. It took practice, some routine, but most students soon gained an understanding of algebra.

            Now, something a tad harder, would you say you have a firm understanding of what a credit-derivative is? How they work or even what they do?

            I have no trouble admitting my understanding of derivatives is limited. I know they played a role in the situation facing all economies across the globe today. As far as my limited research has told me, they’re similar to a form of insurance taken out by banks and financial companies. These entities “insure” a borrower’s ability to repay the mortgage that a bank or financial company issued to a homeowner, giving protection if that borrower fails to make payments.

Next, as far as I can tell, the process only continues in similar fashion. The bank or finance-company taking out the insurance on the borrower’s credit worthiness gets insurance from another company, all to safeguard their interest – they “inure and the insured.” This new company proceeds to get insurance on their investment, continuing on to other companies in other countries, eventually spreading to banks and finance institutions across the globe.

For years this process continued to happen. A castle of cards was constructed, one dependant on all others, where only a limited amount of missed payment could be afforded before the castle would implode. Then, as we all know, things began to fall apart. Appreciation in the housing market stopped and payments were missed. Foreclosures shot up, appreciation came to screeching halt with the surge of houses on the market, and the same banks and finance companies, which only recently were recording record profits, began losing LOTS of money.

Then it spread. With banks suffering from major loses, the credit market dried up. People stopped spending money as freely as they had. As sales dropped, businesses dependant on getting easy credit now had difficulty as banks attempted to recoup their losses. Businesses had to down-size. Soon unemployment began to rise. Then, with unemployment on the rise….

Wow – it’s starting to get really confusing again. Not sure if I can follow everything that's happening. I think I might just be happy that I have algebra figured out, because this whole economic-downturn thing might be a tad too perplexing for me….