One HUGE aspect missing to the above discussion, in the context of sub-prime mortgage meltdowns is that banks will commonly bundle a bunch of loans and sell the bundle (securitization) to investors (pension funds, hedge funds) and turn that cash back around to make more loans.
I.e. they don’t keep the loan around. They’ll want to make as many loans as possible (including “good” and “bad” loans) to make money on the ‘loan origination’ and other fees.
Since they aren’t holding the loan any more they don’t much care whether or not it is ‘good’ or ‘bad’.
Why does it seem not to matter whether the loans were ‘good’ or ‘bad’?
Back when securitization was in its infancy a lot of due dilligence went into describing the quality of the components of a bundle. If the composition of a bundle was all good that would earn the bundle a good rating. As these motgage-backed-securities (MBS) got popular (REALLY popular) institutions put far less diligence into describing the quality and something happened to the ratings agencies along the way.
Several decades ago If you wanted ratings information you paid the ratings agency for their analysis. They did not cover everything and to get their attention companies started hiring consultants from the rating agencies to get on the good side of the raters. The major ratings agencies eventually switched to a paradigm of getting paid by the people they are rating (can you say conflict of interest?!)
So an institution with a steaming pile of sub-prime mortgages can pay a rating agency to magically transform that heap into a AAA instrument.
This whole collusion has sort-of melted down in the past few years as the actual quality of sub-prime MBSs has been exposed. So currently there are a lot less ‘bad’ loans on real estate made. In fact it’s harder than ever to get a loan even if you are well qualified.
However there are whole classes of over-rated crap that aren’t tied to real stuff like houses. The ratings agencies are still paid by the bundled-crap-pushers. There are still many trillions of dollars of junk out there we have not heard much about yet.