Further, the corporations made several bad loans and resorted to business practices that led to them being in dire straits as far as the financials are concerned once the crisis broke out. The bad state of the economy is cited as one of the reasons for the victory of Barack Obama in the presidential elections of 2008. Subsequent to his election, there was lot of hope and anticipation regarding the kind of stimulus package that his administration would provide to the beleaguered sectors of the economy.
There has been much criticism of the way in which the credit bubble was allowed to inflate and the potentially lethal effects it is having now on the World economy. First, much of the blame has been laid at the door of the Federal Reserve and the policies followed by it in allowing excessive liquidity into the system. As Kevin Philips (2009) points out, "the financial sector's malpractice from the mid- 1980s through 2008 was more corrosive than the earlier negligence. This is because in many ways the politics, permissive ideology, and interest-group lobbying during the Multi-bubble years was obliged to be deliberate and uprooting. This involved the capture and disarming of existing agencies and boards, as well as the gutting or repeal of existing statutory protections. Besides Congress and the White House, the centers of this "disregulation" usually included the Federal Reserve Board and often the Treasury department.
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An unusually large number of sub-prime mortgages that originated in 2006 went delinquent only months later. The consequent credit deterioration and liquidity crunch was felt across the financial system with the result that Bear Sterns came close to folding up - to be rescued by JP Morgan at the instance of the US Federal reserve.
Nearly 50 percent of the sub-prime credit has disappeared or has been acquired at cheap valuations. The foreclosures have been brought about due to the dashed expectations of the borrowers in being able to refinance their mortgages at favorable terms. The sub-prime borrowers are essentially "walking away" from the property and allowing foreclosure, despite the impact to their credit rating.
To have a brief introduction for the present crisis, the housing market was inflated to a large extent because of loans made to borrowers who had bad or no credit history. These kinds of borrowers were called sub-prime of below the prime required for a good credit history. Once the loans were made arbitrarily, the homeowners went for further capitalization by refinancing their mortgages and borrowing against the houses. All this went on till the housing market corrected itself and the housing prices started to come down. This meant that the bubble started to burst.
While the housing market bottoming out does not really make the whole economy go bust, it is the aspect of building up value on top of the mortgages through a form known as securitization that we will discuss later. And then the same were collateralized in the form of instruments known as CDS that gave the whole thing the look of a crisis of epic proportions.