The global recession of 2008 the worst recession the world has seen till date. The recession was not caused by business cycle fluctuations but by the financial bubble. This recession is often referred to as the sub-prime crisis as this was the result of sub-prime lending that created the property bubble that burst in 2008 to create the huge recession. In this paper we are going to discuss how this lending procedure emerged and how it led to the bankruptcy of a number of financial institutions.
During 2007 the Fed rates were quite low. The low interest rates induces people to take more loans to buy durable assets. During 2007 we find that the housing sector was in boom with large amount of purchases being made out of bank loans. Loan taking also became easier as the banks relaxed the terms and conditions for lending. Loans were advanced without verifying the borrower’s income or asset positions. This was known as the NINA (no income no asset) lending . The loan was given against mortgage of property. But it also had clause of non-repayment. If the borrower is unable to repay the loan the bank had the right to redeem the amount by the sale of the mortgaged property.
The banks sold the mortgages or collateralized debt obligations (CDO) to other financial institutions . The financial institutions bundled a number of mortgages and securitized them. These came to be known as mortgage based securities. Huge amount of foreign investments flowed in the US economy and found the MBSs as lucrative offers to invest in.
As the rate of interest increased the number of loan defaulters increased. The financial institutions found a number of defaulters but could not sell the properties as there were no takers . The property prices fell. The financial system became bankrupt. All the big financial institutions toppled one after another leading to a financial crisis that led to the great recession of 2008.
Works Cited
Glass, Ira. The Giant Pool of Money. 2008. English. 29 March 2016.
