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Financial Crisis Essay

opinionated Essay
1076 words
1076 words
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Avery Howard
Econ 102 - Financial crisis paper
4-30-14

Causes and Results of the Financial Crisis.
The 2008 financial crisis started long before the market crash of 2008. After the Great Depression, America enjoyed a time of “Great Moderation”(economist) named for the consistently low interest rates and steady growth of the economy following the Great Depression. Financiers took note of this and eventually started to make more and more risky investment decisions; financial firm’s profits would increase as long as low interest rates and stable economic growth continued. Financiers eventually grew blind with greed. They “claimed to have found a way to banish risk when in fact they had simply lost track of it”(economist). The financial crisis was a result of poor government regulation, lax policies and the housing bubble burst that caused homeowners to default on their mortgages.
By irresponsibly lending mortgages to “subprime buyers” for the past three years, banks had created a potentially huge problem if homeowners started defaulting on their mortgages. Banks sold these mortgages, along with their risk of default, to bigger banks that pooled mortgages around America into one big investment. Pooling mortgages was designed to reduce the risk of an single individual defaulting on their mortgage. A majority of people were able to pay their mortgages back, only a small percentage would default, making pooled mortgages a profitable investment. Mortgages can only be pooled if their risks are interpreted as uncorrelated. Big banks claimed that the United States housing market is uncorrelated and housing values would fluctuate independent one another in different housing markets. Large banks went onto sell pooled mortgage debts to inve...

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...ght up to the banks when the housing bubble burst and people started defaulting on loans. The Federal Reserve needs to force banks to hold a minimum quantity of capital at all times. These regulations need to strictly define capital so banks can't “smuggle in forms of debt that did not have the same loss- absorbing capacity as equity” (economist). By placing strict regulations on the ratio of capital to assets a bank must hold, acknowledging that the United States housing market is not an uncorrelated market, and promoting strict oversight on financial institutions, there would be a more stable trustworthy system which would hopefully promote another period of low interest rates and high returns in America without the fear of the market potentially collapsing.

Reference List
"Crash Course." The Economist. The Economist Newspaper, 07 Sept. 2013. Web. 28 Apr. 2014.

In this essay, the author

  • Explains that the 2008 financial crisis started long before the market crash of 2008.
  • Explains that by lending mortgages to "subprime buyers," banks created a potentially huge problem if homeowners started defaulting on their mortgage.
  • Explains that market consistency encourages investors to make risky higher yielding decisions in the long run, but if interest rates are low and unstable, investors will invest in long-term stable investments.
  • Analyzes how the federal reserve's lax enforcement of laws and regulations on banks impacted banks' ability to make risky decisions.
  • Explains that the 2008 financial crisis was caused by a series of failures by the government regulate united states financial institutions.
  • Opines that the federal reserve should have bailed out lehman brothers before other banks would become subject to the same fate.
  • Opines that the federal reserve's lax regulations were one of the biggest mistakes leading up to the 2008 market crash.
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