Introduction
After the adverse effect of the economic disturbances that hit the United States of America (USA), the country is slowly but surely showing signs of recovery. This was termed as one of the deepest economic recession the country has ever experienced since the 1930s.
The sheer magnitude of this recession and the extent to which it affected the lives of American citizens is beyond measure. It left people wondering what happened exactly, what is the probability that it is going to happen again and what steps has the current government taken to mitigate the effects.
The financial market regulation is one of the key areas that the economy relies on as the first line of defense, to correct the inefficiencies of the economic system. Regulatory, corrective and preventive measures hold a significant stance in the correction process of economic disturbances.
Thesis statement
In as much as the United States faced a serious economic meltdown that tremendously affected in several aspects of the economy, it is clear that several factors contributed to the undesirable situation, which is currently mitigated by imposing several promising economic strategies that show tremendous signs of improvement.
Critically looking at the various scenarios presented by the 2007-2009 financial turmoil, the fundamental interest is to ensure Americans live free from adverse economic effects (Karen, & Sabato, 2009). The economic system should be in a position to bring consciousness to American citizens, who are usually unaware of investment terms used to regulate financial markets.
For instance, in the systemic risk, core financial institutions and markets failure may negatively affect the financial system and in turn, influence other participants of the economy in other sectors.
Additionally, the deleveraging aspect where corporations borrow finances to purchase asset for purposes of growth with regards to return on investment also affects other aspects of the economy. Nevertheless, when these assets are sold at a lower than expected amount, it may lead to losses hence causing financial depression.
Procyclicality is also another significant aspect whereby market participants’ act on a business cycle, which exhibits boom-and- burst outcome. A perfect example is the process of borrowing during the upsurge and deleveraging during the recession.
Regulations to reduce this effect are exceptionally challenging to formulate. The fourth facet is preferred equity whereby debts are given a higher priority than common stock in the event of insolvency.
Some banks may possibly improve their capital by changing their preferred equity into ordinary stock. These are just but a few areas one needs to comprehend before dissecting the causes and impacts of the economic crumble.
The argument that most economists and the political elite have put forward as to why the recession occurred is the breakdown of the real estate market, which destabilized the prices of houses, throwing the financial system into a crisis.
However, looking at the real issues that provoked the recession date back to the 1990s, when people from the lower-income bracket reverted to home ownership, the government was forced to find means to make the situation stabilize.
The two evident causes of action were to support initiatives of households’ revenue growth and compelling banks to flex their rules on providing mortgages.
Consequently, it was practically difficult for low-income earners to own houses in many states across the country, but due to the pressure that the government faced from the low-income earners obligated them to modify the standard of mortgage approvals and issuance.
In 1992, the Federal Reserve Bank of Boston, a standing tall organization, announced that many rejected mortgages, the minority group topping the list (Müller, Finka & Lintz, 2005).
This report acted as the vital bargaining tool for structural and policy reforms on the standards used in the issuance of mortgages across all banks of the United States of America. After the enactment of these changes, it became much easier for the American populace to acquire mortgages.
The impact of this policy was a steady increase of homeowners from 66.2% to 69% during the 2000 to the year 2004. Additionally, it also became easier for people who already had their own homes, to purchase second or even a third house for purposes of vacation or future retirement.
Some even wanted to purchase larger houses. Consequently, there was an incredibly sharp rise in demand for houses causing tremendous escalation of prices. Throughout the period of 1995 to 2005, prices of houses were on the rise, almost doubling each year.
Banks, on the other hand, came up with new categories of mortgages with zero down flexible interest rates and minimal or no documentation mortgages. This was a strategy for banks to entice people in taking up these mortgages.
The banks were not looking at the gains from the interest rates; instead, they looked at market values of these securities. This was clear evidence of Collateralized debt obligation, which is a financial security whose returns are form fixed assets underlying proceeds hence the emergence of mortgage-backed securities.
The banks received commissions after the creation of Collateralized debt obligation and on administration when they were still in the market.
However, the bank was not accountable for their profitability and liquidity; therefore, they were only interested in the number of circulating securities hence the transfer of risk to the Collateralization debt obligation buyers. The real estate market experienced growth from 2002 to 2006.
Consequently, the Collateralize mortgage obligation had risen to 3 trillion dollars. In the year 2008, the market for real estate crumbled and Collateralize mortgage obligation went down to 1.4 trillion.
In the year 2006, the market became flooded with houses hence slowing down the growth. The increase in interest on mortgages pushed homeowners to stop payment and give up their houses to banks.
In 2007 and 2008, the number of mortgage defaulters increased sharply hence obliterating the market value of Collateralize mortgage obligation. In fact, they declined to zero level and 2.2 trillion was lost. This resulted to among the deepest economic slump in the American history.
The housing crisis was the chief cause of the US’s economic meltdown. However, focusing on other causes of the economic recession, the change of economic strategy of development in the 1980s also significantly contributed to the problem.
Additionally, the United States of America changed from the leading manufacturer to the leading importer of cheap goods. This also contributed to the disturbance, which had always been brewing for the last thirty years. Going back to the 1980s, the US Economy relied on the ideology of full employment and wages. The US experienced significant growth in the economy during this period.
When a country manufactures or produces its own goods and services and exports them to other countries, its economy grows magnificently, as compared to when that particular country imports goods and services from other counties (Nelson, 1990).
The unemployment problem in the United States emerged in the 1970s. The root cause was that the American government moved a substantial fraction of their manufacturing capacity, to developing countries with the aim of reducing manufacturing costs, by moving closer to source of the raw materials.
This had adverse effects on the American population, since most people lost their jobs after this drastic change hence causing unemployment levels to rise significantly. This was the beginning of the country’s economic decline.
In the last thirty years, the GDP (Gross Domestic Product) of US relied on debt interest. Most people used their houses as collateral for borrowing loans. Such incomes were not sustainable, since they were not real from production of goods or services.
Many households continued borrowing until a crisis emanated. After some time, this was eventually termed as the financial meltdown. When the economy crumbled, the price of houses dropped drastically, and people owed the bank more than the actual value of the house that they used as collateral in securing those particular mortgages.
In dealing with this economic crisis, the U.S government employed both economic and financial policies mechanism. The emergency economic stabilization act enacted in 2008 took on board the Troubled Asset Relief Program (TARP).
This enabled the U.S Treasury to purchase all mortgages and financial instruments summing up to seven hundred billion dollars. TARP faced challenges in recovering the money from banks, although received a boost from the Federal Government.
In the second quarter of regaining stability, the economy again fell steadily. This led to the government another enactment, The American Recovery and reinvestment act 2009 (Nelson, 1990). The main aim of this act was to dedicate seven hundred and eighty-seven billion dollars to get the economy out of the grave situation.
The focus was on healthcare, unemployment, substitution of sources of energy and infrastructure. The government was spearheading the recovery process by additionally injecting one and a half-trillion dollar into the ailing economy to invigorate it.
Moreover, the Federal Reserve System amplified the supply of money to 2.25 trillion dollars by purchasing securities and making funds available to combat defaulters, majorly student loans. Two years down the line, a positive change happened.
The gross domestic product registered significant growth and unemployment rate declined or reduced considerably. The fifteen million Americans, who were jobless due to the economic meltdown, got sufficient support from the government through unemployment benefits (Karen & Sabato, 2009).
The government stretched this period up to 99 weeks. The municipal governments also got a massive uplift. The president championed for the formulation of regulatory reforms. The congress also played a prime role in passing various critical legislations. The Federal Reserve and treasury, on the other hand, mitigated the effects of housing and mortgage crisis.
During this period, the political stability of U.S was in jeopardy and faced serious challenges. The shockwave of this economic turmoil spread to other nations. This was due to the U.S being the international guarantor of the international monetary system and the dollar being the international media of exchange.
This showed that the developing countries have not decoupled themselves from the developed countries; whereas, developed countries cannot depend on exports to pull themselves out of recession (Müller, Finka & Lintz, 2005). In June 17, 2009, the treasury department proposed reforms, which included the regulation of financial firms.
The formation of Financial Services Oversight Council, which constituted the Treasury, had the mandate of spotting emerging systemic risk. The Federal Reserve had the supervisory role of establishing the financial stability of all financial institutions.
Furthermore, it was a fundamental requirement for all financial firms to have a strong capital base in line with the laid down standards. Additionally, there was a formation of a National Bank, which was a separate unit, whose sole mandate was to oversee all federal banks.
Sealing of all the loopholes such as the removal of the federal drift charter was a fundamental area of investigation to this institution. Adjustments to Standards for providing financial products mitigated lending practices.
For an economy to be stable, various policies have to be implemented and followed; these include macroeconomic policies (Kwon & Shepherd, 2001). Some of the key aspect, which act as economic stimulus, are export oriented production and implementation of sustainable fiscal and financial policies to govern the economy.
One evident point is that the U.S economy will need more than two years to recover completely. The government has to take centre stage in the rescue of the economy. Current survey points at 10% joblessness rate.
The government needs to provide additional injections into the economy to a tune of 960 billion dollars, in order to fast track, the recovery process and stabilize the economy of the country. However, from a political point of view, injecting 960 billion dollars into the economy may prove difficult for the obama administration to convince the congress into passing this bill.
This is due to the democrats losing majority of the congress. The monetary instruments used in the liberation of the economy need to be adequate and in-line with the policies (Laurens & International Monetary Fund, 2005).
The current measures taken by the American government are gradually taking effect in the resuscitation of the economy. However, the political differences should be put aside and critical bills passed by the congress, in order to rescue the country from collapse.
It is imperative to note that the American people want the economy to operate efficiently and effectively. The government should play its role and make sure that American’s desires are successfully met.
Looking at the origin of the financial crisis thirty years back, one can see that the financial and economic policies formulated at that time were the main weakness that led to the meltdown of the economy.
We cannot say that the economy is out of the woods yet, but significant strides have shown result in relation to recovery. The road to sustainability may seem to be long, but the implementation of the formulated strategy is the vehicle that will facilitate the achievement of a sustainable economy.
Conclusion
In conclusion, the United States is moving in the right direction in terms of the measures taken to mitigate the effects of the economic meltdown. However, the country should do much more, since the economy is currently at a critical balance and may slip back to recession, if not closely watched.
The current government assumed office at a time when the country was in terrible shape. It is cleaning up the mess that resulted from the previous governments; therefore, one cannot judge its performance in regards to the current situation, since it is spending most of the time mending the economy.
However, time is also a key component in the recovery of the economy. As much as reforms are put in place, they need time to take effect and show signs of recovery. This cannot happen overnight; it needs a substantial amount of time. The American people have a lot of faith that the economy is going to, fully, recover and the country will move to prosperity.
References
Karen, O. & Sabato, J. (2009). American government: Roots and reforms. New York, NY: Pearson Longman.
Kwon, Y. & Shepherd, W. (2001). Korean economic prospects: from financial crisis to prosperity. Massachusetts, MA: Edward Elgar Publishing.
Laurens B. & International Monetary Fund. (2005). monetary policy implementation at different stages of market development: Washington, DC: International Monetary Fund.
Müller, B., Finka, M. & Lintz G. (2005). Rise and decline of industry in Central and Eastern Europe: a comparative study of cities and regions in eleven countries. New York, NY: Springer publishing company.
Nelson J. (1990). Economic crisis and policy choice: the politics of adjustment in the third world: New Jersey, NJ: Princeton University Press.