Y Did the Crisis Happen

Y Did the Crisis Happen

  • Submitted By: Armandomusa
  • Date Submitted: 06/30/2010 6:19 AM
  • Category: Business
  • Words: 20127
  • Page: 81
  • Views: 2

Section 1
Why Did the Crisis Happen?

4 February 2008
Recent US mortgage market troubles unsteadied the global economy. This article
summarizes research analysing millions of loan applications to investigate the
roots of the crisis. A credit boom may be to blame.
Recent events in the market for mortgage-backed securities have placed the US
subprime mortgage industry in the spotlight. Over the last decade, this market has
expanded dramatically, evolving from a small niche segment into a major portion
of the overall US mortgage market. Can the recent market turmoil – triggered by
the sharp increase in delinquency rates – be related to this rapid expansion? In
other words, is the recent experience, in part, the result of a credit boom gone
bad? While many would say yes to these questions, rigorous empirical evidence
on the matter has thus far been lacking.
Credit booms
There appears to be widespread agreement that periods of rapid credit growth tend
to be accompanied by loosening lending standards. For instance, in a speech delivered
before the Independent Community Bankers of America on 7 March 2001,
the then Federal Reserve chairman, Alan Greenspan, pointed to ‘an unfortunate
tendency’ among bankers to lend aggressively at the peak of a cycle and argued
that most bad loans were made through this aggressive type of lending.
Indeed, most major banking crises in the past 25 years have occurred in the
wake of periods of extremely fast credit growth. Yet not all credit booms are
followed by banking crises. Indeed, most studies find that, while the probability
of a banking crisis increases significantly (by 50–75%) during booms, historically
only about 20% of boom episodes have ended in a crisis. For example, out of 135
credit booms identified in Barajas et al. (2007) only 23 preceded systemic banking
crises (about 17%), with that proportion rising to 31 (about 23%) if non-systemic
episodes of financial distress are included. In contrast,...

Similar Essays