Question

The 2008 sub-prime mortgage crisis in the United States could have been mitigated by applying prudent credit management. Identify the main causes of the crisis and explain how proper credit risk and assessment could have diverted the course of unfortunate events.

Answer 1

Rating Agencies sometimes ignored the fundamentals and manipulated the rating of certain debt ridden companies by giving higher rating. These companies then got access to cheaper source of credit which were sourced from banks and other financial institution. Indirectly lot of public and private fund is at risk.Greed is another factor.Banks and financial institution in order to expand their business and achieve targets lend credit to subprime ( group of borrowers with poor credit worthiness). This happened in the subprime crisis or housing bubble where public money through banks were loaned out to subprime customers.

These Could have been prevented by following :

1. If banks had less exposure to subprime borrowers and If banks had kept securities or mortgage in lieu of loans then the losses would have been less.

2. The reserve requirement at the time of crisis was very liberal and this allowed banks to loan huge amount to subprime borrowers. If the reserve requirements were higher it would have been prevented.

3. Credit rating agencies should have performed an honest assessment which would have shown which companies have poor credit rating and this would have prevented banks from providing loans to them.

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