1. BREAKING NEWS
Chairman Ben S. Bernanke
At the Federal Reserve Bank of Chicago’s 43rd Annual Conference on Bank Structure and Competition, Chicago, Illinois May 17, 2007
The Subprime Mortgage Market
The recent sharp increases in subprime mortgage loan delinquencies and in the number of homes entering foreclosure raise important economic, social, and regulatory issues. Today I will address a series of questions related to these developments. Why have delinquencies and initiations of foreclosure proceedings risen so sharply? How have subprime mortgage markets adjusted?
How have Federal Reserve and other policymakers responded, and what additional actions might be considered? How might the problems in the market for subprime mortgages affect housing markets and the economy more broadly?
2. US Economy
For the last few years, the American economy is facing a lot of trouble. Increasing fuel price had lead to a rise in the cost of energy and the federal government has been hardly unable to keep the budget deficit to a lower extent since the war for oil has been started. But now, a majority of American investors believe the troubled US economy has fallen into a recession, according to a survey released by asset management giant Schroders. A total 62 percent of the poll respondents said they believed that the world’s largest economy was contracting.
More firms reported higher sales, but also higher material costs and lower profits, in the second quarter than in the first quarter in 2008. Soaring energy costs drove US consumer prices up 1.1 percent in June to an annual pace of 5 percent, the hottest annual inflation level since May 1991. Core CPI was 2.4 percent higher than in June 2007, the strongest rate since March 2007. Federal Reserve concerns about rising inflation and sluggish growth as the economy battles fierce crisis from financial turmoil and the worst housing crisis in decades.
3. Housing Market bubble
Housing market in American economy, like most other developed global economy, is consisted of buyer and seller, lender and borrower, mortgage brokers, thrift institutions and investment banker. Taking a mortgage loan is the most popular way of buying a house. There are a number of financial institutions to provide this service. Also there are investment banks of Wall Street like Bear Stearns, Lehman Brothers, Goldman Sachs, Merrill Lynch and Morgan Stanley, who buys these pools of mortgage funds from the lender and issue mortgage backed securities against them. There are The Government National Mortgage Association (GNMA), Federal National Mortgage Association (FNMA) and Federal Home Loan Mortgage Corporation (FHLMC) to supervise and manage the activities of the housing market. This is a big picture and the whole economy is directly affected by the operations of this market.
Housing bubbles may occur in local or global real estate markets. They are typically characterized, in their late stages, by rapid increases in the valuations of real property until unsustainable levels are reached relative to incomes, price-to-rent ratios, and other economic indicators of affordability. This may be followed by decreases in home prices that can result in many owners holding negative equity—a mortgage debt higher than the value of the property. The underlying causes of the housing bubble are complex; factors include historically-low interest rates, lax lending standards, and a speculative fever. This bubble is roughly coincident with real estate bubbles in the United Kingdom, Germany and even South Korea.
What happened in the United States was very simple. There was an economic bubble in many parts of the U.S. housing market including areas of California, Florida, New York, Michigan, the BosWash megalopolis, and the Southwest markets. The following things happened: there was an expectation among people that the housing price will go up and up and up there was a rush among the people...
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