Why Sub-Prime Mortgage Loans Are Hurting Everyone
Many people have heard of the phrase “sub-prime mortgage loans,” especially as of late as many are going into foreclosure in record numbers. But how does this situation affect everyone, even those not in the mortgage industry and those who don’t have sub-prime mortgages? Why can we say there is a ripple effect when it comes to sub-prime mortgage loans and the entire U.S. economy?
How Mortgage Loans Are Handled
People not in the financial or mortgage industry are often surprised to learn that the lender that offers mortgages doesn’t exactly do all the financing themselves. Often, mortgage loans are resold to other, larger financial companies. These companies often need to sell a bond or other security to cover the risk of those loans. When mortgages are defaulted on, those bonds or securities become worthless. Anyone that invested in them loses their investment capital. A bank’s stock can fall when this happens, as it becomes apparent that they have debt that will not be repaid.
Mortgage Loans and the Credit Crunch
When there is a rash of foreclosures or banks begin to lose stock, this leads to what is called a credit crunch. Because they took a risk on sub-prime mortgage loans and lost, the banks and other financial institutions need to tighten the reins, so to speak, so as to not lose any more money.
And of course, when people are losing their homes and cannot pay their mortgages, they typically default on their credit card payments as well. If they’ve lost a job or are facing such financial hardship that they cannot afford to pay their mortgage loans, why would they continue to maintain their credit card payments? So banks and other lenders make it more difficult for others to get new credit.
When this happens, spending overall goes down. Without credit, people spend less at retail outlets and other discretionary areas. They are less likely to do anything unnecessary, such as take vacations or go skiing and things such as these. They begin to spend less; this is how the fall of sub-prime mortgage loans affects even those with money.
And when banks tighten the reins on credit applicants, this includes those who need credit for their business or to start a new business. Commercial loans are harder to get, which means that businesses are even affected by sub-prime mortgage loans, as without that necessary credit they are less likely to upgrade their equipment, invest in new avenues of selling and marketing, and so on. This hurts their business overall, which means less hiring and even possibly more layoffs.
So it may seem strange, but the severe problems with foreclosures on so many sub-prime mortgage loansmortgage loans are affecting everyone, regardless of your business or industry, or what area you live in. Even those with money are feeling the pinch of this ripple affect. The world’s economy is becoming more tight-knit than ever before, and the problems with these sub-prime is a good illustration of that point.
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