The Great Recession or GFC which officially started in December 2007 began with a big bang – the primary cause of the great recession was the bursting of the $8 trillion housing bubble. Thanks Barney Frank!
Barney Frank (Dem. Mass) ran Fannie Mae and Freddie Mac into the ground which caused the real estate crisis. Now the financial crisis was something else and Alan Greenspan knows all about that.
There are more causes of the great recession which started end of 2007 beginning of 2008.
The market mayhem continued until June 2009. The aggressive financial practice of issuing easy loans without adequate collateral was blamed as the primary cause of the meltdown.
However, the deeper cause for the economic shock dates back to the 90’s when the deregulation regime began. After then it was simply a series of events to bring the house of cards come tumbling down.
Deregulation by Gramm-Leach-Bliley Act and the Recession
Glass-Steagall Act of 1933 prevented banks from using customer deposits to hedge derivatives. However, in 1999 the act was repealed in favor of Gramm-Leach-Bliley Act.
Deregulation in the financial sector allowed banks to deal in hedge funds. Banks promised to invest only in low-risk securities to protect their customers. They said they needed it to compete with foreign firms.
However, the very next year credit default swaps and other similar high risk derivatives were exempted from regulations with the Commodity Futures Modernization Act.
Big banks got the competitive edge they required by engaging in multiple sophisticated derivatives. Soon, they bought the smaller and safer banks to become too big to fail.
Securitization causes through Derivatives before GFC
Securitization was a two-step process. Deregulation cleared the way for hedge funds to be invested in derivatives, collateralized debt obligations and mortgage backed securities. Mortgage backed securities are financial products which depend upon mortgages used as collateral.
Mortgage Backed Securities
Banks sold individual mortgages on the secondary market to hedge funds. Hedge funds bundled various mortgages and used computer models to put a price tag on the bundle. The price was set after factoring in risk, monthly premiums, future home value and total amount owed. This bundle was sold to investors as mortgage backed security.
Mortgage backed security became popular as they were essentially risk free while increasing investment amounts. Banks could make new loans with the money received on selling mortgages.
The monthly premium paid by a homeowner was forwarded to the hedge fund which sent it along to the investors. Everyone received a huge cut along the way. This was a major reason why banks pushed for more loans including high risk groups as well. It was ready money for them without the added risks.
In due time everyone including individual investors, hedge funds, pension funds and large banks owned these securities. Citibank, Bear Stearns, and Lehman Brothers were among the biggest investors.
Demand gave rise to more mortgages by banks to fuel the securities market. Sub-prime mortgages became extremely popular as they made more money than the loans themselves.
Insurance in the form of credit default swaps causing recession
The entire risk of a homeowner defaulting on a mortgage payment fell on the investors. However, investors played it safe with insurance, called credit default swaps.
Solid insurance firms like American International Group sold these credit default swaps. Investors did not hesitate in picking up the derivatives thanks to insurance companies.
The Federal Angle and the US economic recession
In December 2001, almost a year after deregulation of mortgage backed securities, the Federal Reserve lowered the fed funds rate to 1.75%. This was a welcome change especially when the rates were again lowered to 1.24% in November 2002.
The low rates directly affected interest rates on adjustable-rate mortgages. Mortgage backed securities ended the 2001 recession which was caused a lot because of the tech bubble.
Greenspan kept interest rates too long for too long, as already insinuated) which helped cause the financial crisis. Too bad we cannot investigate The Fed! Now The Fed is raising interest rates mysteriously possibly too high but this is another topic.
Increase in Subprime Mortgages
Monthly premiums became cheaper for people who could not afford conventional mortgages earlier. However, this lowered bank’s income as well which was dependent on loan interest rates. This got the banks to start approving poor credit groups for mortgages.
As a result, there was a sharp increase in subprime mortgages doubling to 20% from 10% between 2001 and 2006. However, it created a real estate asset bubble by 2005. In 2007, subprime mortgages were a $1.3 trillion industry and Barney Frank and the Community Reinvestment Act was a huge contributor to this.
And Barney Frank is a free man living off a lavish federal pension now. Barney Frank and his Democratic friends forced banks to give loans to irresponsible people. This blew up in everyone’s face when these people could or would not pay off the loan.
Real Estate Asset Bubble before the US GFC
Low mortgages fueled the demand for homes which homebuilders tried to meet. Cheap loans encouraged more people to buy homes as an investment as prices kept rising. Again, Barney Frank was in the middle of this.
They believed everyone should own a home even if those people have never in their life proven to be that responsible.
People forgot that adjustable-rate loans were directly affected by short-term Treasury bill yields which depend on fed funds rate. People did not realize or expect fed funds rate to ever change at that frequency.
By the end of 2004, the rate increased to 2.25% and by the end of 2005 it had almost doubled to 4.25% and by June next year it was 5.25%. The cheap interest loans were based on the fed funds rate of 1.24% in November 2002 – this goes back to Greenspan. The fast rising rates hit homeowners bad as they could not afford the mortgages anymore.
What Caused The Crumble in 2008
Housing prices which were at their zenith in October 2005 started falling. The prices were down by 4% in July 2007. This prevented new mortgage holders from selling the homes they could no longer afford – they were irresponsible and never should have been sold a home in the first place much to the dismay of morons and criminals like Barney Frank.
People started defaulting on mortgage payments which left financial institutions and investors holding the bag and Barney Frank refused to take any responsibility for it. Just like another liberal! Kind of like Obama not taking any responsibility for the destruction of Obamacare or allowing Syria to use WMD on their own people!
However, these were insured from solid insurance companies. Many banks and investment firms started bleeding money at the same time putting undue pressure on insurance firms. Soon, there was a glut of homes in the market. The average homeowner could not just flip the switch and sell his home to recover losses.
Many homeowners simply chose to walk away than pay their inflated mortgage payments. The housing market crumbled instantly which led to the banking crisis in 2007 and all this was because of the shenanigans played out by Barney Frank. The banking crisis soon spread to Wall Street causing the Great Recession.
Frank is the biggest white collar criminal in US history, perhaps world history.
How did it get So Bad, So Fast?
The country’s economy is built on credit. However, credit in itself is not bad. Poor utilization of credit as seen in mortgage backed securities combined with greed was the recipe for disaster. Credit when left unchecked promotes risky endeavors in the financial sector.
Mortgage brokers determined who got loans without a worry as they sold their risk to others. Risky mortgage became commonplace and banks who approved these loans absolved themselves by bundling these risks into investments.
Thousands took large loans with low interest rates as an investment homes or to refinance it later for more equity. Mortgage brokers welcomed the demand as they did not have a reason to not sell a home.
What is a a recession vs depression
A recession is defined by economics as two quarters of continued negative economic growth. A depression on the other hand is an extreme form of recession and involves high unemployment and a slowdown of economic activity across several countries. The largest depression was the well known Great Depression between 1929 and 1941.
The official definition by economists states a depression is a period where
- There is a decline in real GDP exceeding 10% or
- A recession lasting more than 2 years.
The Great Recession of 2008 resulted in enormous wealth erosion for many people. This came primarily in the form of a decimated stock market and falling home values all because of Greenspan and Frank. This historic economic event has taught some serious lessons to the world. However, as they say, those who forget history are condemned to repeat it.
Unfortunately America chose to make all new terrible mistakes a couple of years after this. America passed the ACA which decimated its health care industry and ignored a terrorist group in the Middle East calling itself ISIS which lead to a string of attacks in America killing hundreds and a massive amount of violence throughout The Middle East.