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Explaining The Financial Crisis To A Nation Of Third Graders
Sectors: Finance
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They're sure talking about "root cause" a lot these days in Washington, though, with only a few exceptions such as Ron Paul (R-Texas) and maybe Tom Feeney (R-Florida), they're really not even getting close to the source of the current problems.
Aside from a few hearty souls, the Bush Administration and nearly all of Congress are still avoiding the underlying questions that, come to think of it, they may not even be asking themselves in private, which, come to think of it, is an even more disturbing thought.
That is, whether or not the U.S. financial system is so fundamentally flawed - based on a credit expansion which mustn't stop but which can proceed no further - that it can no longer survive even with a trillion dollars of government money to plug all the known leaks.
To hear the discussion dumbed-down so third graders might be able to make some sense of it just makes the situation more surreal. To wit, tonight's address by Pesident Bush:
Most importantly, my administration is working with Congress to address the root cause behind much of the instability in our markets.
Financial assets related to home mortgages have lost value during the house decline, and the banks holding these assets have restricted credit. As a result, our entire economy is in danger.
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 Unfortunately, there were also some serious negative consequences, particularly in the housing market. Easy credit, combined with the faulty assumption that home values would continue to rise, led to excesses and bad decisions.
Many mortgage lenders approved loans for borrowers without carefully examining their ability to pay. Many borrowers took out loans larger than they could afford, assuming that they could sell or refinance their homes at a higher price later on.
Optimism about housing values also led to a boom in home construction. Eventually, the number of new houses exceeded the number of people willing to buy them. And with supply exceeding demand, housing prices fell, and this created a problem.
Borrowers with adjustable-rate mortgages, who had been planning to sell or refinance their homes at a higher price, were stuck with homes worth less than expected, along with mortgage payments they could not afford.
As a result, many mortgage-holders began to default. These widespread defaults had effects far beyond the housing market.
See, in today’s mortgage industry, home loans are often packaged together... I don't know whether to laugh or cry.
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