In this post, I will be once again examining the role played by the housing market in instigating the economic crisis, however in more detail.
So, we have two groups of people: homeowners and investors. Homeowners buy houses, while investors invest money in businesses to obtain more wealth.
Before 9/11/2001, investors put money into treasury bills, which were very safe investments that offered a good amount of revenue for investors. After 9/11, the interest on these treasury bills was lowered to 1%, which produced too low of a revenue for investors.
So, investors turned to the housing market, where they bundled mortgages into packages called CDOs (which consisted of safe mortgages, average mortgages, and unsafe mortgages).
Investors, always looking to make as much profit as possible, would use a technique called leverage to sell these CDOs. Leverage is when an investor borrows money, sells a CDO at a higher price than they borrowed, and then makes a good amount of profit from the transaction.
When CDOs became limited in availability due to widespread home ownership, investors decided to obtain the homes of defaulting homeowners (people who could not pay off their houses), once they defaulted. They would then have a piece of property to sell.
This caused investors to buy more subprime, or risky, mortgages, which is when things became dangerous.
When more people defaulted on their mortgages (because they were subprime) investors were left with many houses, which then lowered the values of the houses located near these houses because of the oversupply of houses on the market. And thus, the catastrophe was in full swing.
After this happened, even more people defaulted on their payments, causing investors to be left with an enormous amount of debt, leading to bankruptcy.
How can we prevent this from happening again?
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Source:
http://www.youtube.com/watch?v=bx_LWm6_6tA
This is a reputable source due to its popularity and recentness.
So, we have two groups of people: homeowners and investors. Homeowners buy houses, while investors invest money in businesses to obtain more wealth.
Before 9/11/2001, investors put money into treasury bills, which were very safe investments that offered a good amount of revenue for investors. After 9/11, the interest on these treasury bills was lowered to 1%, which produced too low of a revenue for investors.
So, investors turned to the housing market, where they bundled mortgages into packages called CDOs (which consisted of safe mortgages, average mortgages, and unsafe mortgages).
Investors, always looking to make as much profit as possible, would use a technique called leverage to sell these CDOs. Leverage is when an investor borrows money, sells a CDO at a higher price than they borrowed, and then makes a good amount of profit from the transaction.
When CDOs became limited in availability due to widespread home ownership, investors decided to obtain the homes of defaulting homeowners (people who could not pay off their houses), once they defaulted. They would then have a piece of property to sell.
This caused investors to buy more subprime, or risky, mortgages, which is when things became dangerous.
When more people defaulted on their mortgages (because they were subprime) investors were left with many houses, which then lowered the values of the houses located near these houses because of the oversupply of houses on the market. And thus, the catastrophe was in full swing.
After this happened, even more people defaulted on their payments, causing investors to be left with an enormous amount of debt, leading to bankruptcy.
How can we prevent this from happening again?
Source:
http://www.youtube.com/watch?v=bx_LWm6_6tA
This is a reputable source due to its popularity and recentness.
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