U.S. housing market-boom or bust - Essay Example

HOUSING MARKET-BOOM OR BUST The US housing market, once on its boom has witnessed a sharp decline in recent time which in effect has contributed to credit crunch for banks, pressure on currency or value of dollar in United States, falling stock market, job cuts and global economic slowdown. But such was not the situation a few years back when the US housing market was at a BOOM. Looking back at the period of boom for the housing market in US we see that the interest rates were low according to the policies of Alan Greenspan, chairman Federal Reserve. In addition to prime loans, a lot of banks gave sub-primes loans to a great number of people. As the sub-prime loans increased, more people invested in property, bought houses to live in or rented them out. This was the time when the property prices were increasing. As the property prices increased, the value of the mortgage also increased, hence this lead to more borrowing and more sub-prime loans while the prices of property continued to increase. All that was happening till now was happening for good. But then the housing market took a different direction. The prices of property which was steeply increasing started to look more stable or flatter. This induced speculative buying and attracted a lot of sellers to the market. As the number of sellers increased due to speculation, the prices started to come down. This had a spiral effect and further decreased the prices with more people on the selling side. As the prices reduced, the value of mortgages also decreased often coming to a point lower than the loan provided. With buyers unable to pay back and value of mortgages lowered, the number of defaulters increased. With increased defaulters, the banks also came to the markets to sell the property against which the loans were taken. With more buyers, the sharp decline in housing markets was further ignited bringing the housing market of United States from a boom -to a bust. "Housing sales and prices in 2007 were much weaker than in 2006. The US housing industry in 2007 is in the deepest decline in 16 years." (Victor Sula, 2007) Some people blame the government and the policies for such a meltdown of the housing industry. They think the policies were not right to begin with and now nothing can be done to fix the damage already done. Also they blame the policies for the increased gap between the rich and the poor. This was not the end of the story. The decline of the housing market had further repercussions. With the housing market crashing, the credit worthiness of banks decreased. Increased number of defaulters meant more bad debts. This caused the decline of the stock market which of course affected other sectors as well. Investment was the main target. With the stock market in the home country in not such a good shape, investors started taking their investment outside the United States and foreign investment into United States also declined. This had an immediate effect on the value of dollar. This creates a problem with two solutions but both solutions present a loss to Americans. On the one hand, investors can be attracted by increased interest rates but housing market will go down faster. With lower rates investment will be lower. Also another factor with respect to investment that is taking place is that investors with the lowering price of dollar are investing in commodities like oil and petrol which in their view are safe and as a result the oil prices further increase. "Foreign investment is drying up and the world is no longer eager to purchase America's lavish debt. The only thing the Federal Reserve can do is raise interest rates to attract foreign capital or let the dollar fall in value. (Mike Whitney, 2007) Another effect was felt on the job market. With banks facing a credit crunch, there were a lot of job cuts putting a lot of people on the streets and curtailing their purchasing power. Job cuts were also taking place from other sectors such as automobile which contributed to the slowing down of economy and the houses now are selling much more slowly. The crisis in the housing market caused major defaults for banks. This lead to credit crunch for the banking sector and a number of banks were also forced to shutdown by the prevailing circumstances. Now not only the property bought under sub prime loans is being affected, but there is an overall effect on property. Greater problems are being faced by banks as they are hit by the credit crunch. Banks now are very careful when deciding to lend to other banks or consumers and even if they do lend, the interest rates are not the same-they are increased. Another worry at the top of everybody's mind these days is the worry of recession in United States and hence world over. As mentioned above, all the factors ranging from busting of United States housing market, crashing of stock markets, severe job cuts, curtailed consumer spending are all spiraling towards indications of global recession while some think that the world has already started to witness the first stages of this phenomenon. "Economist Michael Saunders, of Citigroup, said last night: 'The severity of the housing slide and credit crunch raises the likelihood of a sizeable consumer slowdown". (Sam Fleming, 2007) In the current situation where banks are facing the credit crunch, more job cuts are likely in addition to cut down in bonuses which directly affects the salaried class. As a result of decrease in bonuses and job cuts, raised interest rates for lending and closing down of banks-the sellers that are willing to sell their property in the market will be asking for lower price causing the prices of property to fall further and crisis to deepen. Great importance should be given to the fact that the United States, one of the leading economies of the world when faces an economic slowdown, there are global repercussions. "Ballooning losses from the US mortgage market could force the global financial industry to scale back lending by $2 trillion and trigger a substantial recession, according to a bearish analysis". (Stephen Foleyin, 2007) The credit crunch faced by banks due to the crash of housing market is resulting in the tightened and highly controlled money supply which makes it difficult for consumers to take further loans. Due to increased defaulters, the banks have increased interest rates which are making it very difficult for the consumers to pay back loans whilst they are also facing job cuts. This is also leading to decreased consumer spending which contributes to recession. "The effects of the credit crunch are likely to be broader, deeper and more protracted than previously expected -IMF global security report". (Steve Schifferes, n.d) REFERENCES: 1. Mike Whitney, The Second Great Depression, February 2007, the clearing house, http://www.informationclearinghouse.info/article17145.htm 2. Steve Schifferes, 'Credit crunch costs '$1 trillion', Tuesday, 8 April 2008, http://news.bbc.co.uk/2/hi/business/7336744.stm 3. Victor Sula, BEACON EQUITY RESEARCH, December 4th, 2007, Expert Group Inc. (OTC PK: EXPT, https://www.expertfinancing.net/EXPT.pdf 4. Sam Fleming, Credit crunch hits: a million 'in trouble, Daily Mail, 17 December 2007, http://www.thisismoney.co.uk/news/article.htmlin_article_id=427693&in_page_id=2 5. Stephen Foleyin, US faces $2 trillion credit crunch, warns Goldmans, Saturday, 17 November 2007 , The independent, http://www.independent.co.uk/news/business/news/us-faces-2-trillion-credit-crunch-warns-goldmans-400735.html Read More