I'm not the sharpest knife in the drawer, especially when it comes to things related to money, so its taken me a while to get my head around this whole credit default swap thing and how it led to the big government bailout.  I began to understand when I was in San Francisco and I heard a speaker describe the market as a game of poker and CDS as everyone who was watching the game betting on the outcome on the side.  The game itself is worth $1,000,000 and the side bets are worth $80,000,000.  That analogy helped, but it didn't quite get me all the way to comprehension and I couldn't quite put my finger on the reason why.

Then yesterday I was watching 60 Minutes and they did a story on CDS, the second story on the subject they'd done just this fall which has to be some sort of sign about how big this mess is.  Anyway, one of the people interviewed used the side bet analogy, but he also pointed out that the bets were made by people who didn't have any money.  AHA!  Now I've got it.

So let's stick with the analogy.  Say you went to play in a poker tournament and you lost early in the night, but instead of going home to get nagged about losing you decide to stick around and see if you can make up some of your losses by betting on the side with the other losers.  You've got $50 in your pocket, but you're so sure you know that your best buddy who's won every basement game you've ever played is going to win the thing that you bet the chump next to you $1,000 that your buddy's gonna win.  The very next hand your buddy goes all in with three of a kind and gets hammered by an inside straight.  He's done and you now owe the guy next to you $1,000 and all you have in your pocket is $50.  You're looking at getting a severe ass-whooping if you don't come up with the other $950.  What do you do?

Well, you could sell your car but you just lost it in a game last week.  You could sell your house, but  you've already used it for collateral on several dozen work-at-home ventures.  You could borrow it from your buddy, but he's tapped out along with every other friend you have.  Besides, you borrowed money from him last week and now he's worried that not only will he not see any money he gives you now, but he has serious reservations about the money he gave you last week. In fact your whole group of friends is in hock to each other but nobody knows who has what, or who owes whom, so no ones lending any money at all.

What's left is your parents.  They've always been good for a bailout, and if you ever needed one now's the time.  So you call up Mom and Pop and they ain't happy.  They're still paying down the second they took on the house to pay for your lousy college education and now you're asking them to go dipping into their home equity one more time.  Luckily they have an open line of credit at the bank that even came with a convenient little check book. So they ask you to come over and sit at the kitchen table while they bitch slap you for 15 minutes, call you all kinds of dirty names and then ask you how much you need.  You think on it for a minute and decide that instead of aiming low and asking for $1,000 you'll see if you can't get them to give you $5,000 so you can pay off your debt and then have some left over for expenses.  They think about it for a while, and they say something about giving it to you if you'll agree to some conditions that they'd like to have their lawyer put into a contract, but you tell them that if you don't get the money tonight the guy you owe is going to kneecap you.  They think a little longer and then say they'll write you a check for $5,000 if you agree to sell them a stake in your house and if you "cross your heart and hope to die" promise that you'll take whatever is left over to help your buddies out.  After all they've always thought your buddies were fine young men, and if you help them out then maybe they'll pay it forward and everyone will start doing better.

Two weeks later you call call your parents from the Caribbean.  You've paid off your debt, filed for bankruptcy protection for your non-gambling creditors and now you're getting a little R&R on your favorite beach in the whole world and you just wanted to thank them.

Glossary:
You and your buddy = Investment Banks
Your house = Mortgage Backed Securities
Your side bet = Credit Default Swaps
Your parents = US Government
Your parents house = US Treasury
Your parents' debt = The US Debt