U.S. Mortgage Crisis or How to Avoid The Effects of ‘Economic Bubble’

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The US Mortgage crisis began actively developing at the beginning of 2007. It touched $300 billion posted in the Investment Funds money market. The U.S. Mortgage crisis led to losses in multi-investment funds and financial institutions, such as Bear Stearns, Goldman Sachs, BNP Paribas.

Monetary authorities in the US, European and Asian countries during the peak of the crisis gave interbank lending hundreds of billions of dollars. The U.S. Federal Reserve, for the first time in several years, reduced the rate of refinancing.

The Organization for Economic Cooperation and Development (OECD), said the mortgage crisis has adversely affected the growth of many countries throughout the world. According to the organization’s forecasts, the growth rate of seven major economies of the world will decline by 0.1 percentage points to 2.2 percent.

According to the International Monetary Fund (IMF), the stabilization process after the mortgage crisis will be long and normalization of credit conditions could take a long time. In the future, the crisis can be expected to reduce the rate of growth of world GDP.

So what is the reason for this U.S mortgage crisis? In the modern scientific theory of economic crisis, there is the notion of “economic bubble“. “Economic bubble” is defined as “large volumes of goods traded at prices substantially different from the true price”. Typically, the situation is increased demand for certain goods, resulting in the price for those goods growing significantly. Scholars have different views of economic bubbles. Some say the economic bubble is a consequence of uncertain true value of the object. There is a hypothesis that economic bubbles arise as a result of collusion betwwen large corporations. Economic bubbles are generally detected only as a post-fact when the bubble bursts.

Consider this theory consistently.

First, real estate prices. We did some sampling of construction of houses in various states of America. As a result, concluded – the total cost of construction materials, services for the construction of houses, plus the market value of land exceeds in some cases, double the cost of selling houses.

The next problem – loans for the purchase of properties issued by banks and investment funds. An interesting fact that people with low income and lower credit history receive loans in a much higher percentage than richer people. This situation does not equal people with low income.

Banks have for many years given credit for a large percentage of low income peoples. Why were banks not afraid of losing the capacity to pay by this category of people?

The reason is that the house in the loan is an asset to the bank. This was beneficial, because home prices artificially grew annually. If the borrower can not pay the bank for a loan, the bank takes the house and it can be sold through auction. This spurred the annual increase in real estate prices. In fact, the existing financial system creates speculation in the prices of property. It is a known economic formula – capital generates more capital. But this formula is effective only when it has a real base, and is not a method for generating the “economic bubble”.

It is very important to get out of the mortgage financial crisis. The first important step could be for financial institutions to forgive a significant percentage of borrowers interest on loans. Make this official. This will reduce the monthly payment for the loan. As a result, many low income borrowers will be able to repay bank loans.

This will benefit borrowers and lenders. The credit issued for 30 years increases the value of the house twice. If the house is worth 500 thousand, the borrower pays the bank after 30 years, about one million. But with the development of values, one million in 30 years will be significantly less solvent than now. Therefore, it will not be a problem for banks to lower the percentage of interest to a minimum.

The next step could be the adoption of federal laws defining the maximum cost per sale of new homes, compared with the cost of their construction.

These measures may stabilize the price of the real estate market trends and freeze expansion of the “economic bubble”.