The past twelve months have shown, in a number of ways how a capitalistic society will perpetuate greed to no end. Specifically the Mortgage-backed Securities, which once had an illustrious allure, are of main focus when discussing the effects greed has had on the global economy recently. Mortgage-backed Securities are instruments comprised of a pool of mortgages that are packaged up with a Weighted Average Coupon and Weighted Average Maturity, these are similar to coupon payments and maturity dates on bonds. In essence, the idea of such a financial instrument is simple and economically viable but when we account for the greed factor, the equation changes. During the mid 90’s the American dream became the American right. Politicians saw it fit that every American should be able to own their own home. This was the beginning of a period of deregulation in the banking system which caused the debacle in which we are currently faced. "No Doc’s" as they are popularly referred to, are loans that were given to consumers without any rigorous background check, or in some cases none at all. For example, if a potential homeowner went to the bank to take out a mortgage they could lie about certain factors that help a bank determine their risk level.
These factors, such as automobiles, currently held real estate, and income, were not investigated to make sure their values were properly assessed. The requirements for down payment became lax as well, some loans were given out with no down payment at 110% of the properties assessed value so that the borrower would have funds to make improvements on the house. This mortgage is now considered a bad asset because the borrower does not have the proper assets to back the loan or not enough income to cover the future payments. The bad asset is then packaged up in a pool of other mortgages and sold as a financial asset to investors. This is the creation of a financial ticking time bomb. Eventually the bad loans made in these Mortgage-backed Security’s began to default and their value came into question, affecting both the weighted average coupon and weighted average maturity. Not knowing how many loans were improperly lent and how many will default it becomes impossible to value the Mortgage-Backed Securities that the banks had issued. A direct result of the availability of these loans to the American public is a sharp increase in demand which caused the price of real estate to sky rocket. This is commonly referred to as "The Housing Bubble".
When the sub prime mortgages started to default you saw the demand for real estate drop off and with it, the values of homes across the entire United States. Contractors had to abandon projects and banks had to foreclose on countless homes. This had the effect equal of a nuclear bomb on the economy and the credit market in the US. Billions and billions of dollars were being written off, banks were dropping like flies, millions of people were put out on the street and millions more left with a house deep underwater. The Recession was so severe that it has been compared to the great depression. 6.9 million jobs lost and 7 million home foreclosed on is not something to simply overlook. In response to this, the government stepped in with trillions of dollars in subsidy’s, guarantees, aid and equity positions at the risk of devaluing the currency in the foreseeable future. For the time, it seems these actions have stabilized the course and direction in which the economy is heading. The word greed is the first word that should come to mind when we think of our current economic recession. Real estate accounts for nearly 30% of the US. GDP and the entire nation exploited that fact. From the average Joe who took out a mortgage on a house that he knew he couldn’t afford, to the mortgage originators who wrote the loans, all the way to the politicians who aided in the deregulation of the banking system, all are responsible for this mess. As far as mortgage-backed Securities are concerned, perhaps their inherent risk level needs to be re-evaluated.
The past twelve months have shown, in a number of ways how a capitalistic society will perpetuate greed to no end. Specifically the Mortgage-backed Securities, which once had an illustrious allure, are of main focus when discussing the effects greed has had on the global economy recently. Mortgage-backed Securities are instruments comprised of a pool of mortgages that are packaged up with a Weighted Average Coupon and Weighted Average Maturity, these are similar to coupon payments and maturity dates on bonds. In essence, the idea of such a financial instrument is simple and economically viable but when we account for the greed factor, the equation changes.
During the mid 90’s the American dream became the American right. Politicians saw it fit that every American should be able to own their own home. This was the beginning of a period of deregulation in the banking system which caused the debacle in which we are currently faced. "No Doc’s" as they are popularly referred to, are loans that were given to consumers without any rigorous background check, or in some cases none at all. For example, if a potential homeowner went to the bank to take out a mortgage they could lie about certain factors that help a bank determine their risk level. These factors, such as automobiles, currently held real estate, and income, were not investigated to make sure their values were properly assessed. The requirements for down payment became lax as well, some loans were given out with no down payment at 110% of the properties assessed value so that the borrower would have funds to make improvements on the house. This mortgage is now considered a bad asset because the borrower does not have the proper assets to back the loan or not enough income to cover the future payments. The bad asset is then packaged up in a pool of other mortgages and sold as a financial asset to investors. This is the creation of a financial ticking time bomb. Eventually the bad loans made in these Mortgage-backed Security’s began to default and their value came into question, affecting both the weighted average coupon and weighted average maturity. Not knowing how many loans were improperly lent and how many will default it becomes impossible to value the Mortgage-Backed Securities that the banks had issued.
A direct result of the availability of these loans to the American public is a sharp increase in demand which caused the price of real estate to sky rocket. This is commonly referred to as "The Housing Bubble". When the sub prime mortgages started to default you saw the demand for real estate drop off and with it, the values of homes across the entire United States. Contractors had to abandon projects and banks had to foreclose on countless homes. This had the effect equal of a nuclear bomb on the economy and the credit market in the US. Billions and billions of dollars were being written off, banks were dropping like flies, millions of people were put out on the street and millions more left with a house deep underwater. The Recession was so severe that it has been compared to the great depression. 6.9 million jobs lost and 7 million home foreclosed on is not something to simply overlook. In response to this, the government stepped in with trillions of dollars in subsidy’s, guarantees, aid and equity positions at the risk of devaluing the currency in the foreseeable future. For the time, it seems these actions have stabilized the course and direction in which the economy is heading.
The word greed is the first word that should come to mind when we think of our current economic recession. Real estate accounts for nearly 30% of the US. GDP and the entire nation exploited that fact. From the average Joe who took out a mortgage on a house that he knew he couldn’t afford, to the mortgage originators who wrote the loans, all the way to the politicians who aided in the deregulation of the banking system, all are responsible for this mess. As far as mortgage-backed Securities are concerned, perhaps their inherent risk level needs to be re-evaluated.
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