Govt. 490 Durra Elmaki
Paper#1 July 6, 2011
The relatively high number of U.S mortgages being delinquent or in foreclosure in 2009 is reflective of the economic hardship that the overall U.S economy has been experiencing since 2008, particularly since the housing bubble problems arose. Several terms became prominent during the recent financial crisis including TARP, adjustable rate mortgages, subprime mortgages, investment banks, collateralized debt obligation and credit default swaps all played a contributing role to the shaken faith in the financial, credit market. Additionally, these risky financial instruments led to the American public’s demand for greater regulation and oversight of the financial sector; however, rather than imposing greater oversight that United States Treasury allocated several bailout packages.
Adjustable rate mortgages were a key component of the mortgage crisis that was taking place in 2009 and is a great example of the sort of risky financial instruments used. By definition an adjustable rate mortgage is different from a fixed-rate by having interest rates that change periodically, rather than having the interest rate stay the same during the life of the loan, which greatly alters the amount of the payments. Despite the fact that many individuals lost their homes due to these ARMs many people are still attracted to them because of the initially low interest rate.
Subprime mortgages are loans that are made to individuals that are generally higher credit risks; therefore the loans have substantially higher interest rates and unfavorable terms in order to compensate for the possible defaulting of the loan by the individual. As Zuckerman explains, “In 2000, more than $160 billion of mortgage loans were outstanding to “subprime” borrowers, a euphemistic phrase invented by lenders to describe those with credit below the top “prime” grade.”[1] Unfortunately, adjustable rate mortgages and subprime mortgages go hand in hand, “by and large, the ARM markets as polluted by the abuses that went on with subprime mortgages,” said Guy Cecala, publisher of Inside Mortgage Finance, adding that “prime” mortgages sold to borrowers with solid credit histories tend to have much clearer terms.”[2]
Collateralized debt obligation CDOs are investment-grade security backed by a pool of bonds, loans, and other assets and generally apply to debts that are non-mortgage. Credit Default Swaps essentially function as a form of insurance that provides protection to the lender in case of a loan default. Both CDOs and credit default swaps were used heavily by various financial institutions at the turn of the 21st century; however, since the economic downturn has taken place many investment and financial firms have been brought under investigation by federal prosecutors because of speculations of fraud taking place thru using these two investment tools.
In an attempt to halt the mortgage crisis or rather the housing bubble, former President Bush signed into law the Troubled Asset Relief Program (TARP) in October 2008, in order to help strengthen the financial sector. Affectively the TARP program allowed the United States Department of the Treasury to purchase what were then considered to be troubled assets, greatly in order to help restore credit in the credit markets and to help avoid a catastrophic breakdown of the U.S economy.
[1] Zuckerman, Gregory. The Greatest Trade Ever: the Behind-the-scenes Story of How John Paulson Defied Wall Street and Made Financial History. New York: Broadway, 2009. Print.
[2] Bernard, Tara Siegel. "Adjustable-Rate Mortgages: Borrowers Diving Back In Again - NYTimes.com." Money, Personal Finance, Consumer Reviews - Bucks Blog - NYTimes.com. Web. 06 July 2011.
No comments:
Post a Comment