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#Problem
Housing
meltdown/Sub prime mortgage crises
This
can very easily lead economy to deep recession.
Cause
of problem
Causes
of problem are most simple and was easily avoidable
-
Excessive
liquidity in money market and easy availably of credit.
-
Easy
credit norms or ignorance of credit norms by lenders.
-
Earlier
high property prices due to easy credit.
-
Now
low property prices due to less credit availability,
tougher norms and rising supply cause by rising
foreclosures.
#Remedy
offered
-
Stimulus
Package
-
Interest
rate cut
#Stimulus
Package
Broad base
approach to cover more and more citizen in package and give
money in every hand supposedly to be spend by the beneficiary.
Most
Probable Outcome
Consider
three families
| |
One
to two year back |
Present
(Early 2008) |
| Family
A |
Owns
a house and happily sees the value of its most precious
asset (It's home) rising. |
Still
owns a house but not so happy as values of its most precious
asset (It's home) has fallen by nearly 5-10% in last
one year and is not
expected to rise in near future. |
| Family
B |
Just
buy a house through mortgage and is happy. |
Still
owns a house through mortgage and is not happy as
value of its house purchased just
year back has fallen by 5-10%. |
| Family
C |
Just
buy a house and is delighted as it get a mortgage loan
much above that it actually expected to get with its
low credit score. |
Is
sad and in trouble because either it has already loss
its house, on the verge
of
losing its house or finding it difficult to fulfill
its loan obligations not only due to soften economy
but also due to the fact that it take credit much
above its repayment capability in hope of a better
future. |
Problem
that can lead to recession
Family A and B are not really in trouble but
they certainly are not as happy or confident as year before,
this lead to low consumer confident.
Family
C is really
in trouble because it not only losing its house and money that
it spend while buying house but also its credit score, that
means now it has to save much more money to get loan for another
house in future, this not only leads to low consumer confidence
but also to low consumer spending because in most cases these
families will cut down not only their non essential/luxury
expenditures but also their normal household expenditures to
save money. Even if in few cases families are not losing their
house still they have to cut down their expenditure to fulfill
their loan obligations because they had taken loan above their
repayment capabilities either due to easy credit norms or due
to ignorance of credit norms by lenders.
Probable
use of received money (Stimulus
Package)
| Family
A |
Is
not feeling any financial hardship but the value of
its house is still coming down, so financial it's best
for it to save received money to cover-up the declining
value of its house.
Although not all will be saving, many will be spending
also, so it will help economy to that extent. |
| Family
B |
Is
not feeling any financial hardship but the value of
its house is still coming down, so financial it's best
for it to save money to cover-up the declining value
of its house.
The possibility of "family B" to spend received
money is less than "family A" since
it still has to repay loan in uncertain economic
outlook. |
| Family
C |
Is
most hard hit by crises, only use of received money
for the time being is either saving or repayment of
existing debt. |
All
in all the probability of avoiding recession by stimulus
package is low, the package is not expected to be very
effective as it is not expected to achieve its aim (increase
in spending).
#Interest
rate cut
This
will certainly help to bring economy out of possible recession
:-
-
It
will help troubled borrowers to refinance their loans at
low interest rate.
-
Make
saving a less attractive option for people with money and
they will have to consider other investment options like
stocks or real-estate to get better return on their money.
-
It
will help companies to take loan at cheap rate for their
business. Particularly companies with international presence, companies
doing business in capital intensive sectors (oil&gas,
steel) can take this opportunity to expand/upgrade
capacities to become more competitive.
All
in all lower interest rate will divert money from saving to
stock markets, real-estate etc. Encourage businesses to expand
and will add more jobs.
This article reflects personal view of the author
and one must
consult its financial adviser before making any investment
decision
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