Recession or Bubble: Understanding the Economic Melt Down

As reported daily in the news, our economy is in a recession. Some experts are saying it is the worst economic situation since the great depression of the 1930s. Others are saying it is just a bubble in the mortgage market. What ever the situation lenders are tightening their lending criteria making it harder for everyone to get credit.

For the last several years lenders had looser and looser requirements for all types of loans, especially mortgages. This made it possible for many people to move up in the housing market, often into homes they really could not afford and many of these people were talked into adjustable rate mortgages. This means the payments flux up and down as interest rates go up and down. This seems like a good deal when interest rates are falling, but when they raise the persons holding these type mortgages often find that they can no longer afford the payments. Also, if the person looses their job or has something else dramatic happen in their life they often find themselves with too much debt. If unable to refinance with a fixed rate mortgage there is a good chance of loosing the property to foreclosure.

People in this situation are often the victims of predatory lending practices. They are sold (or maybe mislead) on a mortgage they really cannot afford and that in the long run is going to cause them great difficulty. These predatory lending practices are a major part of the economic crisis we are facing today. Many of the larger financial institutions such as AIG, that buy mortgage backed loans and securities are unable to continue to do this because it has gotten to the point where so many of the mortgages are "bad paper" that it is to risky for them to continue making these investments. With out this market for mortgages smaller lenders are not able to make the individual mortgages that people need to obtain a house. Realtors in turn are unable to sell individual properties which in turn is causing a sharp decline in property values, which then hurts the value of existing mortgages making "bad paper". It is sort of a vicious cycle causing a meltdown in the economy.

The government bail out is intended to take the bad paper out of the system making it possible for lenders to lend without to much risk. What the original plan may not have considered is the overall fall in real estate values. The $700 billion originally planned as the bail out was supposed to cover the "bad paper" estimated to be about 5% of the overall housing market. The experts figured that 5% of mortgages were bad and likely to be foreclosed. The government was supposed to step in and buy the "bad paper" from the banks now stuck with it thus freeing up money so that the banks could continue to loan. The credit markets have dried up for everything not just mortgages. Businesses are increasingly unable to borrow for their needs as well. Consumes can not borrow for automobiles and other big ticket items. This maybe because even mortgages that do not fall into the "bad paper" category have become questionable because the underlying property value have dropped considerably across the board.

We are now seeing some of our corporate giants in serious financial trouble, not just financial institutions but companies like General motors that support many part makers and suppliers and millions of jobs.

The government bail out should continue but it must be done carefully with discipline and accountability. Eventually the housing market will turn around and if the government can hold the "bad paper" long enough it should be able to make wind fall profits from it far greater than the $700Billion. This money can then be used to pay down the national debt and shore up social security. If we play our card rite as a country we will be able bring a lot of good out of this crisis. Their must be discipline and accountability built in to the bail out programs that are put into effects and also accountability regarding corporate executive actions that have gotten us here in the first place.