The previous years, particularly 2004 to 2006, lenders became generous in granting loans due to the lowering of interest rates and mobility of high capital. However, these lenders clamored for an increase in profit to balance the further risk they will take; consequently, this profit-generating scheme became a burden for borrowers because of higher charged interest rates. Since lenders will apparently assume higher risk with subprime mortgages than the conventional one they charge expensive interest rates higher than the prime lending rates.
Recently, several mortgage lenders proclaimed bankruptcy because of numerous foreclosure incidents among clients of subprime mortgages due to intolerable interest rates. The crisis was caused by a serious worldwide credit crunch which is an economic condition that makes investment capital hard to acquire and in turn greatly affects all types of borrowers. Moreover, the crisis on increasing foreclosures of subprime mortgages affects the decision of investors to take risk due to rising anticipations of massive financial losses; therefore, if investments will be cut-off from the United States the dollar rate will then suffer further devaluation.
Setbacks on investments are not exclusive to the internal economy of United States but also to outside investors such as Norway and Germany which was mislaid by 1 billion Euros due to investment losses in the America. Accordingly, as the dollar fall the prices of goods and services will rise due to an equal inflation rise. The subprime mortgage crisis was predicted by financial experts as early as 2005 because of negative trends in providing a clear-cut documentation of mortgagers capability to pay.
Despite the early precautions given by financial experts, the lenders did not responsibly respond to the curative actions needed thus contributing to the further devaluation of the dollar and the rise in commodity prices. The off-putting credit crunch will prove to be a serious headache for the investors and the borrowers alike.
References Nickels, W. G. (2005). Understanding Business. New York: McGraw-Hill. Tirole, J. (2006). The Theory of Corporate Finance. Princeton and Oxford: Princeton University Press.