Question

Many blame the the subprime mortgage melt-down as one of the primary causes for our on going economic problems. Our text indicated that a great portion of this problem arose from agency problems. OK, lets assign blame. Do you agree with the text? How much blame also should the homeowner bear? What do you think?

Answer 1

To start with it was agency problem that lead to start of mortgage crisis. The lenders undermined repaying ability of the mortgage borrowers and did not do due dilligence on them. This was done to make out as many loans as possible for lucrative commissions which were very high. This lead them to skip checking the credit score or even providing loans with bad credit history. The higher executives did not keep this in check because the foreclosure would help them get a higher return as real estate prices very high at that time. Hence there was agency problem in this case.
Second come the rating agencies. They provided good ratings to otherwise bad securities with risky cash flows as in the case of Mortgage backed securities. Hence egency problems arose in this case too.

However some of the blame has to be given to homeowners too who took out loan. They did not assess their capabilities and took loan. When the prices became high for houses, they got loan from another bank, repaid the first and had some profit which they spend on luxuries. This way it was a vicious circle in which everyone was conniving.