Anatomy of a Financial Crisis: A Real Estate Bubble, Runaway by M. Jarsulic

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By M. Jarsulic

An indepth examine the origins and improvement of the present monetary difficulty, from an economist and Washington insider. Jarsulic explains how a wide range of economic associations, together with loan banks, advertisement banks, and funding banks created a credits bubble that supported nonprime loan lending and helped to inflate apartment prices.

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Extra resources for Anatomy of a Financial Crisis: A Real Estate Bubble, Runaway Credit Markets, and Regulatory Failure

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Both conduits and SIVs are special purpose entities set up to fund long-term assets using short-term debt that is sold in the assetbacked commercial paper markets. They are designed to make profit on the arbitrage between short and long interest rates. Conduits include liquidity support agreements, provided either by the sponsor or by some third party. These agreements guarantee the buyers of the conduit’s commercial paper that these debts will be redeemed, even if the conduit is unable to roll over its borrowing when it comes due.

Price declines and increasing foreclosure rates have set up a negative, self-reinforcing cycle that now affects all mortgage borrowers. Foreclosures increase the stock of existing homes that are vacant and for sale. The increase in inventories causes additional declines in prices. The declines in prices reduce 34 Anatomy of a Financial Crisis borrower equity. This is an obvious disaster for nonprime borrowers who typically had little home equity when their loans were originated, and were likely to have few financial resources on which to fall back.

A sponsor puts the collateral pool into a special purpose vehicle to be overseen by a trustee. The SPV issues securities, which the sponsor pays a credit rating agency to rate. Super senior and senior debt securities are rated AAA to AA, and mezzanine debt securities are rated A to BB. Unrated equity securities are also issued. The equity securities absorb the first losses on the collateral, and are paid the highest returns. Losses not covered by the equity tranche are absorbed by the debt holders.

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