The Subprime Mortgage and Credit Crisis Explained
Posted on 08 October 2008, at 11:06 am, by Judie Lipsett
If the recent events on Wall Street have caused your head to spin and your heart to flutter (and not in a good way), then you aren’t alone. For those who are still trying to get a grip on how our economy ended up in the toilet, Alex at Neatorama has done a beautiful job explaining the current crisis, as well as nine other times when America suffered massive financial meltdowns – all within the last 100 years.
Hooverville in Levittown, New York (Source)
Regarding our current situation:
To understand the ongoing subprime mortgage and credit crisis, let’s go back a few years. The end of the Dot-Com Bubble was the start of another, even larger bubble: the housing bubble.
From 2000 to 2005, the median sales price of existing homes increased year over year and speculative investment in properties skyrocketed. “Flipping” or buying a house, doing some quick renovation or repair, then selling it for a handsome profit, became sort of a national pastime, with cable TV shows dedicated to it. In 2005 we saw the launch of not one but two shows, one called Flip This House and another – completely unrelated – called Flip That House.
When property values kept on increasing, home loans became very easy to get (after all, if the borrower defaulted on the mortgage, then the bank got the house – which value kept on increasing anyway!). New mortgage products became popular: subprime loans for borrowers who otherwise wouldn’t qualify for loans because of their lack of creditworthiness (hence the term “subprime”) and adjustable-rate mortgage, which, as its name implies, have a variable interest rate. In addition to ARMs, there were also interest only loan – which let the borrower pay only the interest and not the principal on the loan for a period of time, and negative amortization loan (or NegAm) which let the borrower pay a portion of the monthly payment (the rest got added to the total amount borrowed – in this type of mortgage, the amount you owe gets larger year after year!).
How easy was it to get a mortgage? One mortgage provider, HCL Finance (motto: “Home of the ‘no doc’ loan” – no doc refers to no documentation of income required) had a product called the NINJA loan. It stood for No Income, No Job (and) no Assets! (Source)
Read Alex’s post, and then let us know what you think…
Link: Neatorama
No related posts.
October 8th, 2008 at 3:10 pm
Wow. Just wow. That was really clear. I DO want to say something about ARM loans though.
I have one and others in my development had them as well. There were a lot of people who left the neighborhood 1-2 years into it because all of a sudden their nice low 400-500 a month payment ballooned to 700-800. These people did not plan for this to go up. They figured they’d be making more money by then so what the hell. Well, they all lost their houses because most of them bought way too much house than they could afford.
We, on the other hand, knew that this would happen and we planned for it and while it wasn’t easy, it did shake itself out. We were ok and we’re still in our house.
October 8th, 2008 at 7:20 pm
Very good read, and I’ve noted that I’ve lived through the majority of the events as an adult and have specific memories of impact from all of them! Oh well..
Its a pity that as Americans we don’t always take a long view to our financial risks, otherwise known as greed. I’m very fiscally cautious and carry mortgage debt only and very minimal at that..
The impacts to the rest of the world of the latest debacle have been horrendous and this also heavily impacts the already negative view that our international brethern have of us.. When are we going to grow up?
October 8th, 2008 at 8:42 pm
You’ve got that right, Drew. The words “American” and “Wall St” aren’t very popular here in Australia at the moment. We have the safest economy and most profitable banking system in the developed world and yet we’re being dragged through the mud with you.
The value of our currency has dropped 30%, banks aren’t lending and businesses are starting to go belly up. People are losing their jobs and price of fuel has gone to $1.50 a litre (around $6 a gallon for you US people)….
I work for a subsidiary of GE. They are virtually selling everything they own here at fire sale prices and retreating home. Our business is on the trading block now. Not nice. But, then again, there’s always tomorrow.
October 9th, 2008 at 1:40 am
I agree, very interesting, but it doesn’t mention the government’s role in creating the current mess.
I’ll keep it simple, since this is probably old news to most of us: the Community Reinvestment Act of 1977 was the first law passed by Congress to “encourage” the banking industry to lend money to people who didn’t qualify for loans under the traditional rules for income and credit history. Congress upped the ante in 1995 at President Clinton’s request and made it necessary for banks to make risky loans as a requirement to expand their business elsewhere. And in spite of numerous warnings over the years of what would happen to the economy if risky loans were allowed to continue, Congress refused to act, saying that objections to the regulations were based on racism rather than economics. Well, all the predictions are now coming true, and yet no one seems able to put the blame where it belongs.
Now, other than mentioning Clinton (because it’s commonly known that he requested the action while president,) I’m not going to blame one party or the other for this mess, at least not here. This isn’t a political forum, and I don’t want to put Judie on the spot for sponsoring such without her consent. Besides, there’s plenty of blame to go around. But I will say that this wasn’t just a case of lax government oversight, it’s a case of the legislative branch pushing business into intentionally risking the country’s economy for their own selfish purposes. A vast majority of both houses of Congress are in this category. Those of us who are registered voters in the USA need very much to keep this culpability in mind when we vote this year. If we continue to send the ringleaders of this massive fraud against us and our money back to Congress as if nothing happened, then we have no one to blame but ourselves when the whole mess comes crashing down around our ears!
October 9th, 2008 at 7:59 am
Greed is NOT good, despite what Michael Douglas will tell you. We had an FHA 30yr fixed in Nashville, an ARM here in Chicago, and we just refinanced it into an FHA 30yr fixed.
What really bothers me the most about this is that we just bailed out all the people that made all these bad decisions, and poorly managed the money. When that happens to me, I lose my house…
I’m just sayin’…
October 9th, 2008 at 10:16 am
I’m just sayin’… all those people wouldn’t be in the position of getting mortgages and making “bad decisions” if a greedy Congress hadn’t allowed it, encouraged it, demanded it.
Sure, blame the poor folks… but they aren’t the cause. People cannot just do things like this on such a wide scale purely on their own. The people who make the rules are the culprits!