If you're interested in the Fannie Mae/Freddie Mac crisis, you should really be reading Dean Baker and Paul Krugman. But as a quick explanatory note, this is a pretty extreme example of regulatory failure. And the failure was that government didn't do enough regulatin'. Essentially, Fannie Mae and Freddie Mac were considered bulletproff investments because their government sponsorship was considered something of an implicit government guarantee. Investors assumed they couldn't fail, because the government would cover their debts. In large part, this was probably a correct assumption. But then it was the government's responsibility to ensure that Fannie May and Freddie Mac didn't fail, and thus the government didn't have to cover their debts. But instead of forcing a heightened level of transparency and responsibility from Mae and Mac, regulators succumbed to the banks' aggressive lobbying campaign and continually fought against more stringent regulation, received reductions in their capital requirements (which set the amount of money they have to have on hand to cover debts), and so forth. The Washington Post has the whole sordid story.
