Financial Institutions & Markets Essay Example | Topics and Well Written Essays - 2000 words

Financial Institutions & Markets - Essay Example What happened was, banks are known to financed their mortgage lending using customer deposits which of course is a limit to the amount of mortgage lending they can do. But in recent years, banks in a bit to fund additional borrowing, moved to a new model where they sell mortgages on the bond markets which was widely seen as an easier means of funds. But this form of borrowing led to bank abusing that incentive to carefully check mortgages they issued.1 Banks saw the business to be extremely profitable since they could earn a fee for each mortgage they sold and went ahead to urge mortgage brokers to sell more and more of these mortgages. The market soon extended especially as the private sector dramatically expanded its role in the mortgage bond market that was previously dominated by government-sponsored agencies like Freddie Mac. Prices became so high to an extend that if the boom had to continue, many US populations would have been evicted from their homes since the US interest rates too were interestingly high. The fall in housing prices affected the wider economies. The Standard & Poor’s/Case-Schiller index in March 2008 showed that housing prices in the US had fell by 11,4% in January and 8,2% in February 2008.2 In a bit to cushion the US economy from the worst effects of the credit crunch and housing slump due to the sub prime loans, the Fed in January 2008 had to cut down interest rates from 3.5% to 3% for the fifth time since September 18 2007 and today at 2.25%. This was in a bit to encourage consumption among Americans. The economic growth rate had slowed to an annual rate of 0.6% between October and December, half the rate forecast and compared with a brisk 4.9% growth rate in the previous three months due to the credit slump and may further be cut to 1,5%.3 To ward off the pressure of slower economic growth, the Bush Administration and Congress moved ahead to agree on a temporary