Home Lending Crisis
Home Lending Crisis
One of the recent problems that the United States has suffered is brought about by the crisis in home lending industries. This has affected the nation’s economy and has left an enormous headache to the people. This has been caused by stacking of interest rates which the lenders are unable to pay. Even though they are classified into different types of the lending process, still the home lending has still left a hole in both the lenders and the investor’s pocket. It was already a hot topic of housing articles in the early 2006, and by this time, the then-approaching housing crisis have already arrived.
Looking closely at the adverse effects of this crisis, we could classify them into the different aspects of lending. These are prime lending, sub-prime lending, and alt-a lending. Even though these are different aspects of lending, they have each contributed to the financial crisis that the nation is experiencing. These could be accounted to the negative effects that resulted from the loans of people, which they were unable to keep up, thus resulting to the lending crisis that the country experiences right now. There are several issues that arose from this crisis, like how these lending problems have hampered consumer spending, since they would allot their money more on to pay for these loans. Because of this, the nation’s economy would experience a slowed growth, affecting the global economy as well.
Prime lending are loans offered to customers – borrowers with highly rated credit histories; they are considered as good creditors. A prime loan or the “A” credits are offered to the “best costumers”. These are the ones who are able to pay on time, on or before their loans are charged with additional interests. Usually, these people are the ones who don’t experience any difficulty in paying their loans. These prime loans are usually seen by the lending companies as the most convenient in their part, since they will not be burdened by loans going past the dues (Mortgage Insider). This saves the company and the people from the headache of additional interests and payments or the loan going default.
Subprime lending is the practice of offering loans to certain borrowers which are not fit or does not qualify for prime loans – they don’t achieve the best market interest rates because of their poor credit history (Guttentag). This puts both the people offering loans and the borrowers at risk, because subprime lending puts in high interest rates, plus the fact that these people have a poor credit history. With the poor credit history, the lender would be forced to put on a higher interest rate as compared to that of prime lending. In short, subprime loans are for those who didn’t qualify for prime loans.
Alt-A loans or the alternative-documentation loans are known to be the most flexible lending type in its terms (Lewis). It is greatly dependent on the borrower’s credit score and the mortgage’s loan-to-value ratio where it determines whether the person applying for the loan is capable of paying. Alt-A lending is usually for those who wish to borrow but finds it hard to procure the documents that would verify their income and their assets. Because of this, Alt-A loans are often abused, wherein the borrowers overstate their income to qualify for a larger mortgage, thus earning the term “liar loans.”
These different types of loans have all contributed to the impending financial crisis being suffered by the nation today. Alt-A, subprime, and even prime loans all possessed certain risks to both the lenders and the borrowers. When these risks have stacked, it all boils down to the financial crisis that the country is experiencing. People are too busy paying for these loans, allocating smaller amounts for other expenditures.
Prime lending, even though it is offered to the lender’s “best borrowers,” still pose several risks (Shameen). If the interest rates are maintained low for the prime borrowers, then it could mean a very slow growth in the economy, since you tailor the rates for those who you see as “good borrowers,” so that they could be able to pay for these loans that they have applied. This would cause the local currency to fall, and it would be hard for it to stabilize, since the interests that you offer would be low, again, for the benefit of the prime borrowers. But there are also other factors that could lead to a prime loan problem.
Lately, prime loans have also been subjected to problems of late loan payments and load defaults, even for the homeowners who possess a good credit history. These are caused by other factors, problems like traditional issues, divorces, loss of jobs for the heads of the family or other family members, and the unexpected medical bills and high costs of healthcare. These problems are all unexpected, out of plan, and sadly, are all inevitable. These would pose a great impact in these prime loans, especially if the borrowers are on a tight budget, expecting that having prime loans would lessen the financial burden that they have to carry (ChicagoTribune.com).
This poses a great impact in the aspect of housing, since having these loans, especially the prime loans, would be the only way to afford in getting into the housing market. This is because of the increase in the prices of homes over the past years, thus no ordinary citizen could hand in the cash without digging deeper into their pocket of loans. But if there are any unexpected problems that would come out, it would surely be impossible to have that desired house through these loans. These would surely give the would-be borrowers second thoughts of getting into loans that they can’t get out of.
Subprime lending has contributed the most to damage in the financial crisis that the nation has been experiencing, especially in the aspect of home lending. There is no one to direct the blame on, since both the lenders and the borrowers have shortcomings. Both the lenders and the borrowers know the risks of subprime lending. For the part of the lenders, they know that they are dealing with borrowers who have a poor or deficient credit history, which these people would surely find it difficult in paying for what they have borrowed (The Independent). For the part of the borrowers, they know that these lenders would surely put high interest rates in their loans to compensate for the deficient credit history that these borrowers have.
Subprime lending is said to operate through risk vs. reward, wherein they risk investing on those with poor credit history, since they will be charging higher interest rates. Because of this, these subprime lenders will have a higher rate of return. They will charge higher interests to subprime borrowers with poorer credit histories. This is because of the risk that they are taking with such customers is higher.
In the recent subprime crisis of the United States, the lenders and the borrowers both found themselves in a situation that they can’t handle. Observers predicted a meltdown in the subprime mortgage industry, especially when there was a great increase in mortgage foreclosure. Because of this, a lot of subprime mortgage companies have failed and went bankrupt. The subprime mortgage crisis has caused a chain reaction: it affected the stock market, further threatened the country’s housing market and has slowed the nation’s economy as a whole. It has further threatened to affect other country’s economies as well, since the U.S. economy plays a big role in the global market stability, and the economy of other nations.
Lastly, there are also problems that might arise from Alt-A lending. These alt-A or alternative documentation loans are deemed to follow the same track that subprime loans have led. They are also deemed to fail, or suffer a meltdown, since more and more people are availing of these “liar loans.” Alt-A loans are said to be the new home of subprime, wherein the alt-A lending is actually gaining popularity, but on the other hand, its credit quality is deteriorating. This is a manifestation of the migration of a large portion of subprime securities towards Alt-A securities, following the fall of the subprime markets a few months ago.
Because of this, there are those who are slowly backing away from Alt-A loan business. Alt-A loans are getting scarce as more and more lending investors are withdrawing or declining their borrowers. People funding Alt-A mortgages are getting picky with whom they are going to fund. This is because of fear of funding people who might not be able to pay these loans. This is because of a growing number of people overstating their value in order to achieve a certain loan.
With the current financial crisis that the country is suffering, it is expected that it will also affect the country’s economy. The solution to this problem lies in the hands of the people, since they are the ones who should really dictate how these loans should be. It is their responsibility to maintain a good credit history for them to be able to avail privileges like has a prime status. Lenders are also partly responsible for the home lending crisis, since they took advantage of the people who have poor credit history, imposing interest rates that seemed impossible to pay.
University/College: University of Chicago
Type of paper: Thesis/Dissertation Chapter
Date: 22 September 2016
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