Can anybody explain me easily what is housing bubble and how it cause financial crisis?


closed as too broad by optimal control, cc7768, BKay, Oliv, EnergyNumbers Feb 8 '16 at 10:17

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  • $\begingroup$ Could one of those who voted to close please post a comment giving their reasoning? $\endgroup$ – Ubiquitous Feb 8 '16 at 15:37

A bubble is when the price of a speculative asset becomes unreasonably high. If we are talking about the housing market this means the price of real estate. When the bubble bursts the price comes crashing down and people are left with assets that are now worth much less than what they paid for them. A major reason the housing bubble was so bad was because of the widespread practice of giving subprime mortgages, meaning giving mortgages to people who did not have the credentials to be qualified for a good mortgage, so they were given mortgages at very high interest rates. The big investment banks then invested in subprime mortgages through various complicated investment products. When the bubble burst and subprime mortgages started to be defaulted on these big investment banks were left with worthless assets and took huge losses.

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    $\begingroup$ Answer is not accurate - banks did not invest in subprime mortgages (some got stuck with them on their books at the end of 2007). Banks sell risk. What banks did was to buy these loans, securitise them (convert into an asset) and sell them investors and government agencies. Most loans were issued with a teaser rate and affordability test was made (if at all) against those rates. When rates reverted to the norm in 2006 most borrowers were not able to afford them, liquidity dried up and prices collapsed. I cannot provide a more accurate answer as question is closed and I'm running out of space. $\endgroup$ – goggelj Feb 16 '16 at 0:14

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