Nearly four years after the collapse of the Lehman Brothers and the subsequent financial downturn that followed, and which most financial commentators blamed on the housing bumble and subprime lending (Mills, 2009), the economic environment of the United States continue to struggle as markets continue to be embraced by fears of new setbacks, defaults and the prospect of experiencing a new double-dip recession (Gibson, 2011).
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This paper purposes to critically evaluate the underlying causes of the current credit crisis sweeping through the United States.
Behind the current credit crisis lie many factors, including the free fall of the U.S. stocks, the obstinately high employment rate in the U.S., the politically-oriented scuffle in Washington over the federal debt ceiling, and the decision by credit rating firms, particularly Standard & Poor’s, to demote the government’s AAA rating after its aftermath (Inman, 2011; Gibson, 2011; Morales & Mendes, 2011).
Perhaps one of the most overbearing causes of the current credit crisis is the just-ended political scuffle over hiking the U.S. debt ceiling by $2.1 trillion, while reducing future government spending by $2.4 trillion (Gibson, 2011; Rowley & Dodge, 2011).
Financial analysts observe that although the raised debt ceiling made significant strides in avoiding massive default, it also rattled investors just coming to terms with a shaky U.S. economy, precipitating the current credit crisis (Gibson, 2011).
It is true that a political compromise was found before the U.S. Treasury missed interest payments on U.S. debt (Peauler, 2011), but the damage had already been done in terms of low investor confidence, hence low credit flow.
The cumulative effect of political indecisiveness witnessed between the Republicans and the Democrats got the investors nervous, a fact that is so well demonstrated by the dipping U.S. stocks as investors attempt to sell them off (Peauler, 2011). This is precisely the second cause that has occasioned the current credit crisis.
On the 1st of August 2011, one day before the presumed deadline to raise the U.S. debt ceiling or risk missing out on interest payments (Peauler, 2011), the Dow Jones Industrial Average shed off 265.87 points, or 2.2 percent, to 11,866.62, its worst day of trading since June 1, while the S&P 500 projected a new closing low for 2011 and turned negative for the year (Gibson, 2011).
Such a dip in stocks, according to this author, only serves to precipitate a cloud of uncertainty over the market, thereby contributing to a further loss of confidence among investors and, consequently, triggering the credit crisis because financial institutions lack the capacity to offer credit to businesses (Peauler, 2011).
The decision by credit rating firm Standard & Poor to downgrade the government’s AAA rating cannot be said to have augured well with the United States’ continuously shaky economic environment by virtue of the fact that such a decision, by its very nature and scope, is enough to put investors into frenzy of disposing whatever they might have held in U.S.
Treasury securities (Peauler, 2011). Once again, available evidence have demonstrated that when investors dispose off U.S. Treasury securities, the cumulative effect is that banks will no longer have the capacity to provide credit to businesses (Levinson, 2009), triggering a spontaneous credit crisis.
Lastly, it can be argued that the high level of underemployment and unemployment witnessed in the U.S. is partly to blame for the weak economic outlook in general and the ensuing credit crisis in particular. A recent Gallup study revealed that 18.5 percent (approximately 1 in every 4) of workers in the U.S. are underemployed, including 9.1 percent unemployed (Morales & Mendes, 2011).
The high level of underemployment and unemployment translates into lower consumer spending – a fact collaborated by these authors when they argue that Americans’ spending has remained fundamentally dormant since it plummeted dramatically in January 2009.
The overall effect of these two variables – unemployment and low consumer spending – is seen in plummeting property prices, low business volumes, and sustained uncertainty in the financial markets as people are not spending and industries are not growing (Yerex, 2011). These factors are adequate to serve as a toxic trigger to a new credit crisis.
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Gibson, K. (2011). U.S. stocks in worst streak since credit crisis. Market Watch. Web.
Inman, P. (2011). Banks are in a capital crunch again. The Guardian. Web.
Levinson, M. (2009). Guide to financial markets. New York, NY: Bloomberg Press
Mills, D.Q. (2009). The world financial crisis of 2008-2010: What happened, who is to blame, and how to protect your money? Evanston, IL: Northwestern University Press
Morales, L., & Mendes, E. (2011). Three years after crisis, little sign of economic relief in U.S. Web.
Peauler, R. (2011). Another credit crisis looming for business if debt ceiling is not raised. Web.
Rowley, J., & Dodge, C. (2011). House passes $2.1 trillion U.S. Debt-limit increase; Senate to vote Aug. 2. Web.
Yerex, R.P. (2011). The consumer-driven economy at a crossroads. Business Economics, 46(1), 32-42. Retrieved from MasterFILE Premier Database