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NEW YORK (CNNMoney.com) — The nation’s financial system is in the midst of a massive shakeup and many on Wall Street and in Washington are pointing fingers and looking for someone to blame.

But in the end, it all comes back to one issue - housing.

Earlier this decade, it was much easier to get a mortgage. Home prices soared about 85% from 1996 through 2006in inflation-adjusted dollars, creating a bubble.

Then the bubble popped. And the fallout isn’t over yet, experts say.

In the past two weeks, the government took over Fannie Mae and Freddie Mac, Lehman Brothers filed for bankruptcy and Merrill Lynch sold itself to Bank of America.

If all that weren’t enough, the Federal Reserve announced late Tuesday night that it was loaning $85 billion to insurer American International Group.

None of this would have happened if the housing market had not imploded, leaving all these firms with staggering losses from their investments tied to mortgages.

"These institutions, which weathered all kinds of calamities before, including depressions, are being knocked out," said Lakshman Achuthan, the managing director of the Economic Cycle Research Institute.

"It’s a testament to the significance of the problem we have here."

Thus, experts agree that there are likely to be future shocks to the financial system until the housing market finally hits bottom.

"The housing correction poses the biggest risk to our economy," Paulson said the day he announced the Fannie and Freddie seizure.

"Our economy and our markets will not recover until the bulk of this housing correction is behind us."

But because of the depth of the housing problems, it may take a long time before real estate prices head higher again.

Home prices, while sharply off from the 2006 peaks, are still high in comparison to long-term gains in income, rents or overall prices, suggesting that they still have a way to fall, according to experts.

The reason housing is wreaking havoc even on insurers like AIG and big investment banks, who do not make mortgage loans, is that during the boom, trillions of dollars of mortgages were packaged together into securities that promised to pay investors with the proceeds of those loan payments.

Faced with this demand, lenders starting making more loans to riskier borrowers, including people who might not be able to afford their mortgage payments in the future and even many with no proof of income.

The risk of loan foreclosure or default was limited because many homeowners were able to sell their house for more than they owed and make a profit.

But once prices topped out and began falling, loan defaults and foreclosures started shooting higher as homeowners found it more difficult to sell their house.

This created problems not just for subprime borrowers but even for those with good credit and income.

This credit crunch in of itself slowed the economy, leading to job losses and more defaults, feeding a downward spiral that has been difficult to stop.

Some experts even argue that the steps being taken to rescue firms like AIG could make a recovery in housing and the broader economy more difficult, as financial firms and investors become more reluctant to lend money.

"We are certainly taking credit and squeezing it tighter and tighter," said Kevin Giddis, managing director of investment bank Morgan Keegan.

"I would hesitate to say the worst is behind us," Achuthan said.

So even with perhaps hundreds of billions of tax dollars going to AIG, Fannie and Freddie, one expert said the only real solution to the housing problem is for the correction in housing to finish running its course.
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