Okay, lets see what I can do. This is a very difficult question to answer because the American financial system is tremendous with several parts.
Crudely put the U.S. Financial System is basically a market based system mildly policed by government regulation.
Private Enterprise is broken up into several sectors or industries. The most prominent industries are Banking and Financial, Entertainment, Agricultural and Food Production, Health Care, and Heavy Manufacturing such as automotive products. Each industry has its strengths and vulnerabilities. The most dominant industry is the Financial Industry. At the last reporting it was approximately 40% of the US Private Sector.
So let's look at the Financial Industry. It is composed of commercial banks, savings banks, insurance companies, commodities markets, stock markets, and the real estate markets. All of these entities are all connected and intertwined. Commercial banks make money by loaning money to businesses, both big and small. Savings banks, by and large, take money from savings accounts and loan it out as mortgages and car loans. Insurance companies take the premiums they receive and invest it, often in commercial banks, commodities and stocks making money twice, however they do occasionally pay on claims. When the claims paid out exceed the money an insurance company takes in or invests that is when they are in trouble.
The financial industry acts as a lubricant to the other industries. Other industries have expenses making their products and getting them to market and they earn profit when the products get to market and are sold. The financial industry comes into play because they loan money to the other industries making improvements and expansion possible but there is a negative effect when the debt increases the expenses or "overhead" reducing profit. Many companies, regardless of industry, go out of business when the profit drops below the expenses and most often at the root of the expenses exceeding profit is overwhelming debt. The debt holders have the right to demand the money they are owed in full when it becomes apparent to them that the company that owes them money cannot pay it back as agreed because the profit is exceeded by its expenses. When the debt holders (banks or private investors) demand their money or "call in the loans" and the company in debt doesn't have the money that is when that company is wiped out or goes "bankrupt".
If most of the loans a bank is holding go into default because the businesses or investors that took the loans can't pay it back then the bank is in trouble.
That is what happened with the Real Estate market. Banks, Insurance companies, and private investors loaned out money recklessly to individuals to purchase houses they could not really afford assuming that value of the houses would continue to increase and if default occurred liquidation of the house would not only recover the money loaned out but possibly a profit because of the value of the house is increasing. What happened is that there were clusters of overvalued homes with defaulted loans dramatically dropping the value of all homes. The homes were not selling, the loans were not recovered, and the banks, insurance companies, and private investors woke up totally screwed.
Now the government has a very limited role. The government controls credit markets because it loans out money to the banks in order for them to loan money to businesses and individuals. if the government (federal reserve bank) loans money to the banks at a high interest rate then banks in turn make loans at a higher interest rate. High interest rates discourage spending financed by loans. Low interest rates encourage spending financed by loans. Less spending drops the value of goods and services and more spending increases it.
The government is also charged with purging criminality or more accurately unethical activity that could manipulate any industry and harm consumers. How effective the government is depends on who is in power. Republicans do not believe in any involvement of the government into private enterprises and therefore they pull back government regulation often to the point where the government is impotent as in the case of the FDA or SEC. In the case of the FDA that agency's funding was peeled back until it could no longer function and in the case of the SEC executive decisions determined the level of regulation. Democrats believe that the private sector cannot be trusted to do right by consumers and increases regulation with the intention of putting more "cops on the beat" protecting consumers.
Now there is a tax component. If taxes go up that is less money claimed as profit. If taxes go down that is more money claimed as profit. Where there is a huge problem is that many people believe that cash flow problems would be solved by less taxes. Taxes were reduced during the previous eight years and the mo
