The current economic situation and the global recession: the cause of the world financial crisis

The primary cause of the current recession and economic crisis was the drastic increase in subprime adjustable-rate mortgages and the CDO's (collateralized debt obligations) that they comprised. The number of subprime mortgages issued in 2005 and 2006 increased dramatically while prime mortgages decreased.

Mortgages are securitized by the federal government; they are pooled together and sold in sections, which spreads the risk and uncertainty to those who take part (nearly everyone). It created a huge web of risk in that the securities are dependent on the underlying mortgage values. The value of the CDO's and their securities decreased and were miscalculated to begin with. Rating agencies could not accurately determine the value them. This is why so many people lost nearly all of their retirement which was largely based on these securities.

Worst of all, the federal government actually encouraged the purchasing of these securities without knowing the underlying risk involved. The web of risk was spread worldwide, not just in the United States. Major institutions like AIG, Citi, Chase, Bear Sterns, etc. held many of these CDO's, and many aspects of society all around the world were dependent upon these huge corporations, thus basically when they failed, society failed.

On the surface level, borrowing and lending also was at an all time high in the past few years. Many people cite the Federal Reserve, Inflation, and the money supply as causes (as if that means something), or random phrases they here on the news, thinking they know what they're talking about, but these things are not really related to the whole situation at all.

About the author

Tyler Williamson runs a site about basic principles of economics that are applicable to everyday life and realistic situations. His site is called Armchair Economics.

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