Subprime Mortgages: Essentially Predatory Lending for Real Estate

The financial crisis, triggered by defaults on U.S. subprime mortgages, has spread throughout the global economy and shows no signs of abating. In fact, the view that anxieties will escalate over the long term seems to hold true. The situation is dire.
It is crucial to re-examine and understand the reality of subprime mortgages in our society. Like financial institutions in any country, when lending to individuals or corporations, they assess the borrower's income, earnings, and collateral.

Subprime mortgages, loans for housing, were offered by American financial institutions to low-income individuals who were not qualified to borrow money. In return, the interest rates were astronomically high.
Please understand this clearly. In essence, they are predatory lenders for real estate. To reiterate, subprime mortgages are akin to loan sharks targeting real estate. With a prolonged housing boom in America, both lenders and borrowers believed that real estate prices would continue to rise indefinitely. Financial institutions lent aggressively, and individuals borrowed heavily, seeing easy access to housing funds. This led to a situation similar to Japan's bubble collapse, triggering the financial crisis.

Seeing Through Securitization Tactics

The American economy, relentlessly pursuing profit, devised even more lucrative schemes by attaching plausible labels like "financial engineering" and "derivatives" to predatory lending practices with exorbitant interest rates. This was the securitization of subprime mortgages. In reality, the business between financial institutions and borrowers was complete with subprime loans. However, the profit-driven American economy sought ever-greater profits through various means.
This is where securitization comes in. Consider a loan shark charging 10% interest. They then create bonds (securitized assets) worth $10,000 or $50,000 with a face value and a 5% interest rate, and sell them on the market. For the selling financial institution, this equates to a 5% interest rate, half of the loan shark's 10%. While the interest rate appears lower (for the bank), they receive enormous sums of capital by selling these $10,000 or $50,000 bonds. This money is then invested in stocks and other assets.

The Real Estate Slump Threw Everything into Chaos

While lauded as achievements of financial engineering, these practices were predicated on the assumption that borrowers' real estate would continue to appreciate, ensuring the timely repayment of 10% interest and principal. In reality, defaults occurred, and banks stopped receiving payments. Although the plan was to seize and sell the borrowers' properties as collateral in such an event, the severe housing recession completely disrupted these calculations, leaving them in an untenable situation.

The Housing Bubble Collapse: A World of Difference Between Japan and the U.S.

A common sentiment is that since Japan experienced and recovered from a housing bubble, the U.S. should follow suit. This is a grave misconception. Japan only had to manage its own domestic situation, whereas the U.S. must contend with the entire world. Securitized products were sold globally. The severity of America's struggles is beyond imagination. Put bluntly, it is the consequence of predatory capitalism. We must never lose sight of the principle of earning through honest labor.