1. Speculative Bubbles 1996 - 2000 2002 - 2007 Holland 1634 - 1637

2. The Housing Market Crisis
What Happened?

5. “The Economist” Magazine Covers During the Economic Crisis

10. The Housing Market Crisis
What Happened?

11. Buying a house (before 2000):
PRIME MORTGAGES ONLY!!!
Consumers were required to put a 20% down payment
For a $500,000 home:
$100,000 down payment & borrow $400,000 (mortgage)
loan is paid back over 30-years at a fixed interest rate (ex: 6%/year)
The loan is less than the value of the house
So banks are taking very little/no risk of default

12. New Sub-prime Mortgages
Sub-prime mortgages were introduced in the year 2000
These mortgages required no down payment to borrowers with poor credit history
Mortgages often had low initial interest rates which adjusted up later
Known as ARMs (Adjustable Rate Mortgage) or variable rate loans
Example: 2% interest rate/year for the first 3 years; after that the interest rate changes to 9%/year
Personal example

13. Housing Bubble Analysis
Subprime Mortgage Example
Price Paid: $1,000,000
Down Payment: 0
You owe: $1,000,000
Major Problem!
Initial Value of House $1,000,000
Housing Bubble Bursts: New Value of House: $900,000
Homeowner now owes 1 million but only has a house worth $900,000.
Now he can’t refinance his loan and his house payments skyrocket when the loan resets.
If he can’t pay his monthly mortgage, the Bank will foreclose on his house!
Huge incentive to just walk away from the house.

14. Subprime Mortgage Analysis
The Binge
Banks made loans to consumers who were not qualified with zero down payments
In the short run, this caused home prices to rise
In the long run, this led to “inflated” home prices & people unable to pay their mortgage
The Hangover:
home prices fell substantially
consumers lost their homes to foreclosure
banks failed (as they took the losses on foreclosures)

15. House of Cards
Led to
Caused by
Credit
Bubble