Political Economy Of The Subprime Crisis
If you check the political economy of the subprime crisis, you will realize that the government and the government regulators are actually as much to be blamed as the lenders and the mortgage brokers. |
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And, with the government helping to bailout banks in financial problems, it looks as the government will continue to have vested interest in the financial and loan industries for some time to come. At least that is what financial pundits claiming.
Many financial experts analyzing the subprime crisis blame the government sponsored enterprises, namely Fannie Mae and Freddie Mac. These two enterprises, although privately owned, were given allowances by the government and above all, they were promised that they would be bailed out in case of financial problems.
In 1995, both the enterprises were given authorization to enter the subprime loan market, and government regulators started coming down on banks that were not providing mortgages and loans to borrowers in subprime regions of the country. In addition, the government ordered both Fannie Mae and Freddie Mac to start lending to borrowers who had poor credit in order to make housing available to more number of people.
As a result, banks ended up with political incentives to lend to borrowers belong to low income group. The same was also true for Fannie Mae and Freddie Mac. Although the intentions of the government were noble, they forced banks and lending institutions against the wall where they had no way out. In addition, getting a mortgage was made very easy, but the regulators did not keep a close watch to check whether the borrowers were being carefully assessed. Coupled with this, home prices started shooting as suddenly the number of buyers increased. This further led to many different kinds of mortgages being introduced. Seeing this trend, the Federal Reserve kept reducing the interest rates, and this gave rise to homeowners borrowing even further. With money being pumped in by the Federal Reserve, banks became secure in lending more and more to risky borrowers. Also, the banks were secure in the knowledge that Fannie Mae and Freddie Mac were there to buy the loans.
However, once the risky borrowers started defaulting on their mortgage as they could keep up the payments, subprime crisis set it having a domino effect across the board.
Political economy of subprime crisis when analyzed says that it was due to the government intervening with the free market.
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