Recently, I watched a movie, Too big to Fail. It depicts the events happened in Wall Street during 2008 US financial crisis. There is a scene in the movie that explained the reasons behind the crisis, which attracts my interest. Then I found and watched another short video, “Credit Crisis”. It takes only 11 minutes to visually illustrate the reasons behind the credit crisis in the United States. After watching it, I have gotten the answers of these questions. What is credit crisis? How did it happen? And who is affected?
This credit crisis is also called the subprime crisis. The reason of the subprime crisis can generally be described as follows.
In 2001, Federal Reserve lowered the interest rate to keep the economy strong, which not only made the treasury bill became uninteresting to investors but also lower the cost of borrowing money. So investors borrowed a huge amount of money and used “leverage” to make more money. They created a “novel” way to make money by purchasing and selling CDO (collateralized debt obligation). At the beginning, the mortgages were only given to people with good credit records and strong ability of repayment. Everything was good until the occurrence of sub-prime.
Include house owners, lenders, bankers and other financial institutes, everybody gained in the process of selling CDOs. In order to sell as many mortgages as possible and make more money, the mortgages were started to give to people who actually don’t have the ability to buy a house. The time bombs were buried here.
Actually, the lenders and investors had realized the default risk of sub-prime mortgages, so they charged these people higher interest rates. In addition, they seem to naively believe that the house value was always rising, so the raised value would cover the default risk, which is exactly the foundation of the dangerous CDO building. However, masked by the