Subprime crisis

The United States (U.S.) subprime mortgage crisis was a nationwide banking emergency, occurring between 2007-2010, which contributed to the U.S. recession of December 2007 – June 2009. It was triggered by a large decline in home prices after the collapse of a housing bubble, leading to mortgage delinquencies and foreclosures and the devaluation of housing-related securities. Declines in residential investment preceded the recession and were followed by reductions in household spending and then business investment. Spending reductions were more significant in areas with a combination of high household debt and larger housing price declines.

The housing bubble that preceded the crisis was financed with mortgage-backed securities (MBS) and collateralized debt obligations (CDO), which initially offered higher interest rates (i.e., better returns) than government securities, along with attractive risk ratings from rating agencies. While elements of the crisis first became more visible during 2007, several major financial institutions collapsed in September 2008, with significant disruption in the flow of credit to businesses and consumers and the onset of a severe global recession.

There were many causes of the crisis, with commentators assigning different levels of blame to financial institutions, regulators, credit agencies, government housing policies, and consumers, among others. Two proximate causes were the rise in subprime lending and the increase in housing speculation. The percentage of lower-quality subprime mortgages originated during a given year rose from the historical 8% or lower range to approximately 20% from 2004 to 2006, with much higher ratios in some parts of the U.S. A high percentage of these subprime mortgages, over 90% in 2006 for example, were adjustable-rate mortgages. Housing speculation also increased, with the share of mortgage originations to investors (i.e., those owning homes other than primary residences) rising significantly from around 20% in 2000 to around 35% in 2006-2007. Investors, even those with prime credit ratings, were much more likely to default than non-investors when prices fell. These changes were part of a broader trend of lowered lending standards and higher-risk mortgage products, which contributed to U.S. households becoming increasingly indebted. The ratio of household debt to disposable personal income rose from 77% in 1990 to 127% by the end of 2007.

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