Explain why the finanical crisis threatened bankruptcies of finanical instituion

Question

Explain why the finanical crisis threatened bankruptcies of finanical instituions well beyond what might have been expected from the overall volum of subprime mortgage devt that had been issued in the years leading up to the crisis. Include in your discussion the fact that "off the Books: subsidiaries of major investment banks, (SIV's), often held these structured derivative products and raised their funding in short term money markets with a guarantee by the parent company to pay off their debts if they ran into liquidity difficulties.

This articles overlooks the credit derivatives such as CDO's and credit default swaps..

Explanation / Answer

The subprime mortgage crisis, which is also known as the mortgage mess came to the public’s attention when there was a sudden steep rise in home foreclosures in 2006 spiralled seemingly out of control in 2007, triggering a national financial crisis that went global within the year. Consumer spending is down, the housing market has plummeted, foreclosure numbers continue to rise and the stock market has been shaken. The subprime crisis and resulting foreclosure fallout has caused dissension among consumers, lenders and legislators and spawned furious debate over the causes and possible fixes of the

Subprime mortgage crisis started from number of things example Housing Bubble. A housing bubble is an economic bubble that occurs in local or global real estate markets. It is defined by rapid increases in the valuations of real property until unsustainable levels are reached in relation to incomes and other indicators of affordability. Following the rapid increases are decreases in home prices and mortgage debt that is higher than the value of the property. Housing bubbles generally are identified after a market correction, which happened in the US in 2006. Subprime borrowing was a major factor in the increase in home ownership rates and the demand for housing during these years. With the fall of the housing bubble came high default rates on subprime, adjustable rate other mortgage loans made to higher-risk borrowers with lower income or lesser credit history than “prime” borrowers. Alt-A is a classification of mortgages in which the risk profile falls between prime and subprime. The borrowers behind these mortgages typically will have clean credit histories, but the mortgage itself generally will have some issues that increase its risk profile. These issues include higher loan-to-value and debt-to-income ratios or inadequate documentation of the borrower's income. The number of subprime loans rose as rising real estate values led to lenders taking more risks. Some experts believe that Wall Street encouraged this type of behaviour by bundling the loans into securities that were sold to pension funds and other institutional investors seeking higher returns. With the subprime industry’s growth came problems for homeowners. Subprime lenders foreclose on properties much more frequently than do conventional lenders. The prevalence of subprime loans contributed to a 31-percent spike in foreclosure filings in the first half of 2006. Economists in Boston warned that if home prices fell, these subprime loans would accelerate a downturn as overleveraged homeowners throw their homes on the market or lenders sell foreclosed properties at bargain basement prices.

Another one is historically low interest rates, some economists are of the opinion that housing bubble was caused in part by historically low interest rates. In response to the crash of the dot-com bubble in 2000 and the subsequent recession that began in 2001, Mortgage rates typically are set in relation to 10-year Treasury bond yields, which, in turn, are affected by federal funds rates. The Fed has acknowledged the connection between lower interest rates, higher home values and the increased liquidity that the higher home values bring to the overall economy. In a 2005 report by the Fed, “International Finance Discussion Papers, Number 841, House Prices and Monetary Policy: A Cross-Country Study,” the agency said that house prices, like other asset prices, are influenced by interest rates, and in some countries the housing market is a key channel of monetary policy transmission.

Analysts have come to understand the causes of the subprime crisis. The resulting fallout of the mortgage crisis has been well-documented. Legislators, regulators, industry insiders and others have witnessed its devastating effect on U.S. and global economies. Criticism of proposed fixes is rife in the media, and economists and financial analysts have been divided over the plausibility of the clean-up theories.

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