The Subprime Crisis and Its Impact in the Financial Sector

Topics: Subprime mortgage crisis, Subprime lending, Mortgage Pages: 37 (10920 words) Published: August 27, 2013
Ballesteros, Ted
Maducdoc, Gervi
Valdecañas, Francesco Adel
Yau, Matthew

MFIMET2 K31

Topic:  The impact of the subprime mortgage crisis on the financial sector of US.

INTRODUCTION

I. Background of the study

The Sub Prime Mortgage Crisis maimed the US Economy as house prices were inflating exponentially; a bubble in financial terms. This eventually burst and causing the assets tied to the different real estates to shrink and devaluate. A financial crisis as such had been one of the most alarming circumstances that hit the United Stated and all of its stakeholders. The said tragedy impinged all bouts of growth and development from such fast growing economy to a stagnant crawl to recovery.

The Sub Prime Mortgage Crisis was basically a result of unregulated and mispriced credit default swaps. These are debt instruments used to insure the debt of an entity against default. The mispricing was caused by the lack of projection for credit risks that are above the line such as systematic risks. As these instruments were engineered to compensate for the certain risk using historical data analyses, the “soft” information was not accounted for. When the economy recovered and payments on their mortgage loans shoot up, they had no choice but to default on their loans. Also, with the growth of the housing sector, people were buying houses that they cannot afford seeing the possibility that house prices will continue to rise. As the homeowners witnessed the prices of their houses decrease when the housing price bubble burst, they foreclosed, and as the value of selling their houses were less than their mortgages. This alarmed the banks as they bought mortgage-backed securities resulting them to be afraid of lending to each other because they did not want these toxic loans as collateral. This also added up to the woes of the economy.

II. Statement of the problem
Given the subprime mortgage crisis caused a rapid inflation and devaluation of house pricing and volatile shifts of house pricing indices and interbank rates, the issue that has been raised is which of the components of the economy were affected.

III. Significance of the study

The significance of the study is to evaluate and classify the economic impacts of the subprime mortgage crisis in the United States. As the Philippines is on the route in financial liberalization, the study will prove useful in analyzing the different preventive measures needed in safeguarding the economic components of countries that prove potential to the said crisis.

IV. Objectives

       As a first hand objective, the research is aimed to identify the factors which significantly impacted the interbank rates by measuring the scare effect of the banks to the subprime crisis by taking a look at the aforementioned rates. The researcher deem the importance of how the study with the hope of using the said information to conduce preventive measures in the bouts of these occurrences happening in the Philippines. With the study, definite sectors of the economy of the Philippines can be given a contingency plan in the case of the same crisis would happen in the Philippines.

Review of Related Literature

I. Subprime Mortgage Crisis
a. Subprime Mortgage
A subprime mortgage is conventionally a loan offered to borrowers who actually has a below par credit rating. These borrowers essentially are risky to deal with so lenders developed a means to compensate them with dealing with these kind of borrowers. Lenders imposed higher interest rates to these subprime mortgage loans they are offering to somehow compensate the risk they are taking in dealing with subprime borrowers.

According to the study made by Chomsisengphet and Pennington-Cross (2006), the distinguishing feature of subprime mortgages appears to be the higher costs associated with these kind of loan which includes upfront and continuing costs. In order to give rise to the creation or development of a subprime...
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