2.1. The Causes of the Subprime Credit Crisis

2.1. The Causes of the Subprime Credit Crisis

The reasons for this crisis are varied and complex. The crisis can be attributed to

a number of factors which emerged over several years and which were pervasive in

both, the housing and the credit markets. This includes the inability of homeowners

to make their mortgage payments, primarily due to risky mortgage products. Other

reasons were, e.g. overstrained lenders and speculation as well as overbuilding

during the boom period. High personal and corporate debt levels, financial products

that distributed and concealed the risk of mortgage default also played

a role.

Finally

monetary policy,

international trade imbalances and government

regulation,

or

the lack thereof,

also fuelled the crisis.

4 Cf.Federal Deposit Insurance Corporation, Failed Bank List, 2009.

5

Further major catalysts of the subprime

 http://www.fdic.gov/bank/individual/failed/banklist.html (retrieved on 24 July 2009).

5 Cf. J.E. Stiglitz, Commentary: How to prevent the next Wall Street crisis, 2008, http://edition.cnn.com/2008/

POLITICS/09/17/stiglitz.crisis/index.html (retrieved on 19 March 2009).

crisis were the influx of huge amounts of money from the private sector, banks entering

into the mortgage bond market

and predatory lending practices of mortgage

brokers,

specifically the adjusted rate of mortgage loans.

 

Ultimately moral hazard lay at the core of many of the causes.

6

The credit crisis

can be seen as the consequence of aggressive risk taking by several financial institutions.

Banks increased their leverage

up to levels

indefensible in a severe

downturn

and thereby funded unsustainable economic growth.

The

reasons behind this

dynamic

Perguruan Tinggi Kedinasan

were

several

widely held misconceptions: e.g. the strong creditworthiness

of borrowers,

reliable ratings and investors

sophisticated enough to efficiently

assess

and price the risks of complex

financial assets. Another underlying flawed

 

assumption

was

that prices for houses in one region would

be largely uncorrelated

to

prices of real estate in other regions and therefore the underlying risk could be

adeptedly

diversified.

8

7

In addition, it was widely believed that rating agencies used the right models

and correct assumptions and were able to produce reliable ratings reflecting the

true risk of default of the underlying assets. Finally, it was assumed that credit risk

was well distributed via innovative financial instruments to thousands of investors

all over the world. This bundle of severe delusion and flawed assumptions caused

the crisis by misleading regulators and central banks and by providing the wrong

incentives to banks and investors.

 

Source : Perguruan Tinggi Kedinasan