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SUB PRIME CRISIS

Causes and Efects:

"The new group at the Fed is not equal to the problem that faces it. They need to speak

frankly to the market and acknowledge how bad the problems are, and acknowledge their

own failures in letting this happen. This is what is needed to restore confidence. There neverwould have been a sub-prime mortgage crisis if the Fed had been alert. This is something

Alan reenspan must answer for."

Dr. Anna Schwartz

The !unday Telegraph

January 14, 2008

CAUSES

What caused the crisis? Initially any th!u"ht that it #as due t! incenti$e%r!&les in 'he U(S( !rt"a"e industry( )!#e$er, a*ter the lar"e ec!n!iceltd!#n *!ll!#in" +ehan r!thers- &an.ru%tcy in Se%te&er 2008, itsees that uch !re #as "!in" !n(

We ar"ue that there #as a &u&&le in real estate %rices in the U(S( and anu&er !* !ther c!untries( 'he ain causes !* the &u&&le #ere l!!se!netary %!licy, %articularly &y theU(S( /ederal eser$e, and the "l!&al i&alances( 'he c!&inati!n !* chea%credit t!"ether #ith the easy a$aila&ility !* *unds c!ntri&uted t! create the

&u&&le( any !ther *act!rs such as su&%rie !rt"a"es, #ea. re"ulat!rystructures, and hi"h le$era"e in the &an.in" sect!r eacer&ated the efects!* the crisis( We c!nsider %!ssi&le re*!rs aied at inii3in" the!ccurrence !* *uture crises in the "!$ernance structure !* central &an.s,easures t! reduce "l!&al i&alances, and chan"es in &an.in" re"ulati!n(

es%ite the c!nsidera&le edia attenti!n "i$en t! the c!lla%se !* the ar.et

*!r c!%le structured assets, s!e !* #hich c!ntain su&%rie !rt"a"es,

there has &een %reci!us little discussi!n !* #hy this crisis in c!n5dence

!ccurred and in %articular #hy s!e 67 trilli!n in %ri$ate la&el structured

assets are &ein" liuidated, #ith ne"ati$e efects !n &an.s, dealers, endin$est!rs and the ec!n!y( Such a discussi!n, #hich is the %riary "!al !*

this %a%er, #ill h!%e*ully lead e&ers !* the 5nancial c!unity t!

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c!nsider h!# the ar.et *!r structured assets sh!uld chan"e and e$!l$e in

*uture(1

Fair Value AccountingA si"ni5cant *act!r in a.in" the c!lla%se !* the ar.et *!r structured assets

c!ntainin" su&%rie de&t a true catastr!%he is the !$e t! *air $alueacc!untin", a %r!cess that #as i%leented last year &ut has &een de&ated

*!r !re than a decade( 9/air $alue acc!untin" is a ne# era n!ti!n that has

de$el!%ed !$er the %ast t#! decades and #as %r!!ted &y lar"e se"ents

!* the acc!untin" and ec!n!ics %r!*essi!n, as #ell as &y leaders !* the

5nancial ser$ices c!unity( It #as i%leented last year &y an ar !* the

SEC .n!#n as /AS !r the /inancial Acc!untin" Standards !ard(

U% until 200;, the h!usin" ar.et in the United States #as