Causes and Effects of the US Mortgage Crisis - Essay Example

A lot of economists consider the crisis of 2007–2008, also known as the Global Financial Crisis, to be the worst financial crisis since the Great Depression of the 1930s (Reuters, 2009). Its roots, however, lie in a more local phenomenon – the US mortgage crisis which began in 2006. Most banks and mortgage lenders offered 100 percent financing of a price for a house (or even more).

As a comparison, most world banks currently finance approximately 85 percent of a price. This was an advantageous credit for borrowers – they received an opportunity not only to buy a house but also to renovate it. However, such a loan was quite risky for lenders. A house could have been sold only for a lower price in case a borrower failed to pay the loan back. Thus, the investment becomes lossmaking. However, the number of such deals was constantly increasing. As a result, both banks and estate agencies were financed by investment banks.

Another factor was that the mortgage rate was not stable. It was dependent on LIBOR, the average interest rate that the average leading bank would be charged if borrowing from other banks (Bischoff & McGagh, 2012). Benefits are obvious – borrowers expected their loan interest rate to decrease in case the general situation is being improved. On the other hand, lenders' expertise is improved with the percentage. Thus, the mortgage-lending system in the US in 2006-2008 was dependent on the LIBOR index. It was acceptable when the index was a little bit increasing or slightly decreasing, though both parties were interested in its stability.

However, the LIBOR index turned out to be quite changeable and unstable in practice. It was about 6 percent by the end of 2007. What is more, it was continuously growing. As a result, borrowers were unable to pay back their loans. Investment banks bore thumping damages. That is how the US mortgage crisis appeared. Its effects may be felt even now. That is what set off a chain reaction of global financial and economic problems. Investment banks were the first to feel its impact – a number of them became bankrupt around the whole country.

This meant a catastrophe for the largest world banks, such as Deutsche Bank or JPMorgan. They suffered a sufficient decrease in their share value and bore huge expenses. All of this led to the global financial crisis. A lot of banks around the whole world went bankrupt. Others had no other choice but to change their policy. The economy was influenced as well, especially the oil and industrial markets. The maximum oil price was reached in 2008 – 147$ per barrel. Gold prices were increasing as well. The whole situation was only expected to worsen.

The effects of the US mortgage crisis were also felt by ordinary people. The unemployment rate rose to 10% by late 2009 – almost 15 million people were out of work (for comparison, approximately 7 million were unemployed in 2008) (Fred, 2013). Housing prices fell approximately 30% on average from their mid-2006 peak to mid-2009 (Fred, 2013). In total, the US total national debt rose to over 103% by the end of 2012 (Fred, 2013). Thus, the US mortgage crisis set off a negative chain reaction of financial and economic challenges. Among its causes, there is the wrong direction of credit accommodation policy and the instability of the LIBOR index. As for its effects – it gave rise to the global financial and economic crisis. Its consequences may be felt even today. What is more, they are far from being eliminated.