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causes of credit crunch
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| Words: 936 | Submitted: 08-May-2011
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Descriptiondescribes the cause the gone-by credit crunch
CAUSES OF THE CURRENTCREDIT CRISIS – ‘the wall street got drunk’ – the rationale behind it!
As, an understanding is gained about the current credit crises which impend large threats to the overall working of economy, It is indispensable to gain a clear understanding of the root causes of the crises. Since the early July of 2008, there have a number of reports highlighting different reasons for the occurrence of such a crisis even though most of these debates find its conclusion in the role of the US, As a company it is essential for us, to understand the economic rationale underpinning it. The economic theory view is more credible and offers an explanation for the very root of this crisis. As the role of US and theories of de-regulation still only remain supporting arguments
The current crisis is the consequences of highly leveraged financial institution’s unquenchable appetite for risky loans to fuel an unsustainable economic growth, In particular predominantly evident in the US market. This concept was underpinned by three primary misconceptions. First, ‘strong creditworthiness of borrowers’ second ‘the risk of credit was widely distributed’ and thirdly ‘the investors are sophisticated’.
Strong creditworthiness of borrowers appears to be a reasonable an explanation as in the recent past there have been relatively limited losses. This logic though was dangerously circularised. The perception of a ‘healthy home-owners’ credit in the view of a lender and investors spread lower with time resulting in the marginal borrowers to seem more financially attractive than they were! Hence justifying and supporting their reason of financing. Furthermore, a climate of ever rising house prices justifies the financing as investors believed that in an unlikely case of, a financially constrain borrower could be covered via the home equity. This finally led to extremely hasty lending to those who could not in fact afford the houses being purchased. Alas, the burst of the housing bubble, only fuelled the problem. ‘So far, U.S. housing prices have fallen about 17.4 %(http://www.bloomberg.com/apps/news?pid=20601087&sid=agcSNwaOYvxE&refer=home), not yet bringing the market to long term historic price levels. In late 2006, default rates on sub-prime loans were only 1 percent; a year later, they were at 10 percent. Today, Moody’s estimates that banks made in the neighbourhood of 15 million high-risk mortgage loans in the U.S. between 2004 and 2007 and that a full two thirds will ultimately end up in default.( reference)’
The second concept underpinning the aggressive risky loan giving, was the ‘the reliability ...
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