Causes and Effects of the USA Subprime Mortgage Crisis

Causes and Effects of the USA Subprime Mortgage Crisis

The United States of America continues to struggle with foreclosures, even as more people fear they might lose their homes in future. However, the National Consumer Law Center is putting in more efforts in strengthening the economy, and specifically the mortgage market, for the sake of the low-income earners, who are the most affected by foreclosures. The subprime mortgage crisis was the root cause of financial crisis in 2008, which preceded the recession. This mortgage crisis was hard to foresee, as a market boom foreran it. This had several effects, including causing banking crisis in USA, and a global recession. The purpose of this research is to establish the causes of the subprime mortgage crisis and its effects today.

In 2006, numerous home foreclosures were witnessed in the USA, and these further increased in 2007.  This should have come as a warning of the impending mortgage crisis. Today, many theories have been formulated to try explain the root causes of this situation. First, the housing bubble, which began in 2001 and peaked in 2005. This led to a sharp increase in the valuation of real estate asset until sustainable levels were reached. Another probable cause is the historical low interests rates. Actually, this factor resulted in the housing bubble. The federal government had reduced the interest rates to 1 percent from 6.5 percent. The relationship between reduced interest rates, higher home values and its subsequent liquidity, as well as impact on general economy was not put into consideration (Demyanyk and Hemert 25).

The bubble bursts between 2004 and 2006 happened when the Federal Reserve Board increased interest rates from 1 percent to 5.2 percent. However, some economists argue that the mortgage crisis could have been controlled if these rates were tightened earlier than this. The housing market correction was evidence enough that a crisis was looming ((Bianco 10-11). Most business writers and economists predicted this due to the overvaluation of homes experienced in the housing bubble time. Another causal factor was the increase in subprime lending. The reduced rates in the bubble period caused many people to borrow money and buy homes. This led to an estimated 6 percent increase in USA home ownership between 1994 and 2004, and a whopping 124 percent increase between 1997 and 2006. Consumer spending increased as more people took second mortgages, in order to enjoy the low interest rates (Rosengren 18).

The fall of the Subprime Mortgage Industry in 2007 affected different financial sectors in the USA. There was rise in foreclosures, as well as interest rates. This resulted in the collapse of Ameriquest, after laying off about 4,000 employees. This adversely affected the US stock markets, as insurance companies, which are players in the stock markets, had to compensate for major losses of banks, real estate lenders, and mortgage companies. The rate of foreclosures in July 2007 had marked a 93 percent from July 2006. In January 2008, the USA Subprime Mortgage Crisis affected the global stock markets. USA being a major player in the world stock market was affected and so these effects were passed on to the global stocks (Shirai 9-10).

In conclusion, financial experts today have understood the causes of this mortgage crisis, and documented it well. However, the effects of this crisis still loom. The most vital step is to identify the strategies to alleviate these effects, and prevent future crises from happening.


Works Cited

Demyanyk, Yuliya, and Hemert Otto. “Understanding the Subprime Mortgage Crisis.” Federal

Reserve Bank of St. Louis. 2008.

Bianco, Katalina. “The Subprime Lending Crisis: Causes and Effects of the Mortgage

Meltdown.” CCH Mortgage Compliance Guide and Bank Digest.2008.

Rosengren Erick. “Subprime Mortgage Problems: Research, Opportunities, and Policy

Considerations.” The Massachusetts Institute for a New Commonwealth (MassINC)

Boston, Massachusetts. Dec 3, 2007

Shirai Sayuri. “The Impact of the US Subprime Mortgage Crisis on the World and East Asia:

Through Analyses of Cross-border Capital Movements.” Keio University, Japan, April 2009.



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