Essay about The Federal Reserve and the Financial Crisis

1421 Words Feb 5th, 2014 6 Pages

The Federal Reserve and the Financial Crisis
Laura Brotherton
Strayer University
Principles of Economics
ECO 100
Professor Isley
March 13, 2013

The Federal Reserve and the Financial Crisis
Government-sponsored enterprises (GSEs) are financial services corporations established by Congress with the hope of enhancing the flow of credit to certain targeted sectors of the economy making them more efficient and transparent. They also intend to reduce the risk to investors and other suppliers of capital. GSE’s make homeownership more available by injecting liquidity into the mortgage market. The GSE purchases mortgages from banks which provide cash for
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Stated income loans do not verify a borrower’s income during the approval process, and no-doc loans assist consumers who could not qualify for normal loan products or did not wish to give up their financial privacy. However applicants require a larger deposit either through equity in security or personal savings. They are helpful because lenders basically guaranteed mortgage loans and allow consolidation of other debt under a low initial rate. As more and more people took advantage of these loans, prices inflated for a short period of time, and once the initial rate period ended and home value appreciation began to decline, borrowers were subject to subsequent rates that they could not afford and began to default or their loans.
Ratings agencies assign credit ratings for issuers of certain types of debt obligations (i.e., bonds). An issuer takes into consideration the issuer's credit worthiness (i.e., its ability to pay back a loan), and affects the interest rate applied to the particular security being issued. Large financial institutions would negotiate with ratings agencies to place triple-A ratings on instruments such as mortgage backed securities that looked attractive to investors but included bad underlying debt. Furthermore, companies like AIG offered insurance on these debt instruments to supposedly reduce the risk to investors.

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