The subprime crisis

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This what i feel is up with the US mortgage crisis.
US has had very complex financial instruments. Much more complex than we have in India.
They have been very optimistic in lending money. Believing that risk associated with the underlying assets could be divided and sold off after being rated by the rating agencies.
So the problem first started with the lending of subprime loans. subprime means lending to those who dont have a good credit history and are more likely to default as compared to normal creditworthy borrowers. And this is what happwned. Two things struck simultaneously- The housing bubble burst and increase in the intrest rates.
Every one expected the house rates to go up forever. But a point reached when supply exceeded demand and rates strated falling at the same time increase in intrest rates caused borrowers to shel out more. This resulted in a series of defaults. With their asset value shrinking and monthly payouts towards loans increasing subprime borrowers started defaulting. Banks that had loaned couldnt recover the costs even by selling the underlying assets because of decrease in net value and very low demand that had dipped further in the wake of the crisis..
A number of banks had to write off their bad loans. Bear Stearns one of the big investment banks would have been the first casulty had it not been saved by the US govt via purchase by JP Morgan. Still losses on account of Bear Stearns could hit JP Morgan hard. Bear Stearns pulled out its money on account of the losses form developing markets. This has been the phenomenon experinced by all the developing markets. In the wake of the crisis investors started pulling their money from and started taking it back to US. This lead markets into a spin.

With the decrease in consumer confidence demand decreased in US causing the growth to slow down . The fed has been stalling the economy from dipping into a ressions which seems imminent, by way of intrest rate cuts still banks are unwilling to lend even to each other. This has further decreased the growth rate. Imports were hit and the US dollar started loosing its value world over. This caused the exports from other countries to be hit even more. For them exports got costlier and imports cheaper resulting in appreciation of their currency.

Lessons learnt from the crisis is that developing countries need to diversify their trade and not be too dependent on US. They must be careful for such bubbles in their countries and have tighter lending norms but it may come at the cost of economic growth.
In US they have to improve their risk assesment models as well as tighten their lending norms.

So much for now. But with passing months knowledge gets added up to this topic. And it is a topic of much debate .