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Us Financial Crisis

Essay by   •  January 8, 2013  •  Research Paper  •  2,059 Words (9 Pages)  •  1,554 Views

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The global economy in recent years has been full of difficulties. Slower economic growth, high inflation, high unemployment rate... are easy to be recognized among almost countries in the world. Government finances have deteriorated sharply even across advanced economies in OECD area (Organization for Economic Co-operation and Development), with public and private debt stretched to extremes in many countries. Many efforts to help the economy escaping this hard condition come from each country and especially the co- ordinated international effort. However, until now we are still not out of the recession yet. People are still worried about their jobs and their living standards. Ongoing difficulties in banking and stock market, the prospect of austerity and still weak housing markets are weighing down on the recovery.

Therefore, to have more effective policies as well as regulations dealing with these global serious problems, it is necessary to look up reasons explained why the economy fall into the worse depression since 1930s, in which the financial crisis in US in 2008 seems to be the most important reason.

To examine more fully and concretely about the US financial crisis three years ago, this essay mainly focus on analyzing what caused it. Besides, some huge impacts of this aftershock will be identified. Moreover, this essay also indicates some economic policies that were used by US government to counteract the crisis and its effectiveness. On the other hand, it is very important to note that the influences of US financial crisis are widely recognized all over the world not only for developed countries but also for developing countries like Viet Nam. Therefore, some suggestions for Vietnamese authorities in governing the economy are very useful and important to survive the global crisis. Also this is the final part of this paper.

II. Finding:

1. The reasons leading to US financial crisis in 2008:

The 2008 financial crisis is affecting millions of Americans as well as people all over the world and is one of the hottest topics in every economic forum. In this period, we have seen that many major financial institutions have been absorbed by other financial institutions, receive government bailouts, or outright crash. The question here is what caused the financial crisis in US in 2008? Of course, many reasons for this financial crisis have been suggested, according to Levin-Coburn research "That the crisis was not a natural disaster, but the result of high risk, complex financial products; undisclosed conflicts of interest; and the failure of regulators, the credit rating agencies, and the market itself to rein in the excesses of Wall Street." Now, let's look at some main reason briefly step by step.

Securitization practices.

Securitization products appeared in early 1970s and quickly developed since 2001, when monetary policies were released dramatically.

Securitization and the born of its products such as some financial agreements: mortgage- backed securities (MBS), collateralized debt obligations (CDO) (which derived their value from mortgage payments and housing prices) are the big invention in financial tool. However, there are at least four economics entities related to securitization (in the past, only two entities are debtor and credit institution) because of the appearance of insurance for security product such as credit default swap (CDS), structured investment vehicle (SIV) and so on, to buy and sell CDO and MBS. Thus, risks are increase and unavoidable. Meanwhile, the financial monitoring system in US does not have enough ability to cover all the potential risks come from securitization.

These risks become more severe if the break- down occurs in financial market because it will formidably loose the confidence of every people in this economy. In addition, interbank lending make credit loss outspread from bank to bank more quickly and seriously. Through contagion, one bank collapse will lead to the bankruptcy of many other banks (domino effect). Moreover, losing confidence of depositors will create a bank run (suddenly withdrawal) that make the condition become worse.

Sup-prime lending.

The term subprime refers to the credit quality of particular borrowers, who have weakened credit histories and a greater risk of loan default than prime borrowers. These loans are characterized by higher interest rates and less favorable terms in order to compensate for higher credit risk.

In the years before the crisis, the behavior of creditor changed significantly. Lenders offered more and more loans to higher-risk borrowers, even including illegal immigrants. In addition, to considering higher-risk borrowers, lenders have offered increasingly risky loan options and borrowing incentives. The mortgage qualification guidelines began to change. At first, the stated income, verified assets (SIVA) loans came out. Proof of income was no longer needed. Borrowers just needed to "state" it and show that they had money in the bank. Then, the no income, verified assets (NIVA) loans came out. The lender no longer required proof of employment. Borrowers just needed to show proof of money in their bank accounts. The qualification guidelines kept getting looser in order to produce more mortgages and more securities. This led to the creation of NINA. NINA is an abbreviation of No Income No Assets. Basically, NINA loans are official loan products and let you borrow money without having to prove or even state any owned assets. All that was required for a mortgage was a credit score. After all, the value of U.S. subprime mortgages was estimated at $1.3 trillion as of March 2007, with over 7.5 million subprime mortgages outstanding.

Subprime lending, by itself, have very high potential risk included: limited debt experience (so the lender's assessor simply does not know, and assumes the worst), excessive debt (the known income of the individual or family is unlikely to be enough to pay living expenses + interest +repayment), failures to pay debts completely (default debt) and so on. Hence, it is obvious that when this type of loan is out of control, banks and financial intermediaries will suffer heavy losses. The evidence is many credit institutions have fail into bankruptcy when the price of mortgage asset (real estate) declined seriously. We will discuss this problem in more detail in the next part.

Housing Bubbles.

Financial bubbles, characterized by substantial rises in asset prices departing from previous trends that are suddenly interrupted by a

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