Economic Crisis the Revelation of the Financial Research Paper

  • Length: 8 pages
  • Sources: 6
  • Subject: Economics
  • Type: Research Paper
  • Paper: #52726174

Excerpt from Research Paper :

Economic Crisis

The revelation of the financial crisis that unfolded in United States in 2008 is considered to be the worst economic crisis since the Great Depression, 1929. The distinctive causative factors that have contributed to the U.S. economic crisis 2008- 2009 are differentiated by aggravated financial control, higher risks in capital investment, the housing bubble phenomena in relation to the brisk credit expansion. The aggregation of these factors in the U.S. economy directed the economy towards the de- leverage and credit crunches as the bubble burst. The following paper shall be discussing about the degree of correlation between the tax implications policies with respect to the financial crisis in U.S.. The precise review of strong linkages between the taxation and economic crises is the explicit explanation of the crisis that shook America. The paper also highlights the key factors that demonstrated their abilities and rescued U.S. In the economic crisis.


The recent financial crisis reported in U.S. has followed the roots of the antecedent financial crisis that took roots in 2007 as the crisis of U.S. housing market. The crisis had a multiplier effect and the adverse consequences were reportedly spreading throughout the world, and proved to catalyze the economic crisis of many countries from developed to undeveloped and underdeveloped countries. The crisis unfolded in U.S. And reached an astonishing level by September 2008 when a number of eminent U.S. financial institutions, including AIG and Lehman Brothers collapsed (Hendrickson & Nichols, 2010).

In order to understand the root causes of the economic crisis in U.S. 2008-2009 this is important to illustrate the factors that triggered the materialization of crisis that stated from the disintegration of the housing bubble and the contribution of the complexity created by the financial policies and instruments that distorted the scheme of asset price correction that proved an agent of the noteworthy recession and global and domestic economic turnaround.

More importantly the paper discourses the response of the concerned authorities towards the rehabilitation of the economy of U.S.. The area of central focus is the response generated before and after the crucial September 2008. The actions taken in the wide array of financial institutes of U.S. including that of Federal Reserves, the actions pertaining to U.S. Treasury, Congress, Securities followed by Exchange Commission and Federal Deposit Insurance Corporation are also discussed.

The Causes of U.S. Economic Crisis 2008-09

The following are regarded as the root causes of the strong financial turmoil that shook the entire world down to the domestic levels of financial institutions, the causes are enumerated below:

Conditions and Prime Considerations before the Crisis 2008-09

The core concepts that derive the state's economy are given by two widely examined tools and concepts of economics. There concepts are generalized to the settings of U.S. before the crisis, as the mismanagement of these tools.

The firms operate with an objective to maximize the wealth or the value of the firm. The firms try to adhere to the theory of firm in different time frames. Irrespective of the fact that a firm is operating in short run or long run it will strive to maintain the profitability at an optimal level. By considering the operations of a firm in short run the facets of the firm might be viewed from a different perspective. Short run is the time frame in which a firm cannot altar its outputs and capacity in terms of designing products, the quality of suppliers and moreover the operations and equipments (Carr, 2011).

If a firm operating in short run is facing losses it still might continue its operations rather than shut down decision, depending on the degree and type of loss. Price is the sum of average fixed cost and average variable cost. If at a certain point the price of a good is greater than the AVC and if the price is equal to the AVC that the firm might continue its operations irrespective of short run losses. Because the AVC portion of the price covers the variable cost of the product and the firms can afford to produce the products.

The law of diminishing returns is an extensive and widely applied law. The law advocates that in all dynamic processes if one or more factors of production are being continuously inducted while the other factors remain constant than the required efficiency can be attained but a point will arise when each unit increase in that factor will ultimately decrease the efficiency of the process.

The utility of the law of diminishing return can be observed in all the aspects of economics. If one relates the law of diminishing returns to the consumption of medicine that the application of the law can be equally justified. The doctor prescribed a pain killer and a set of instructions to a certain person, when the patient will take the pain killer for the first time the pain will be relieved, but if he continuously takes the pain killer and do not follow the instructions than the efficiency of the medicine will decrease and the pain may reappear in a more intensely.

Four organizational members are working as a group to identify the root causes for the decline in sales of the product. So if the management keeps inducting more and more people in the group or the attainment of the similar survey, that at first with each new member the efficiency of the group will increase but after a certain point the induction of more employees in the group will decrease the efficiency as many members will sit idle depending on each other, hence this is also an example of law of diminishing return (Robinson & Nantz, 2009).

Home Ownership, Deregulation and Subprime Credits

Factors and Creations of the Housing Bubble

The increase in the prices of the houses in the U.S.A. was observed to have an exponential trend since 1998 up to 2005. As shown in the following chart. The point of argument that stance the funnels down the increasing rate of real estate in U.S. is given by the fact that the increment in the housing prices was faster rather exponential than the average wages of the U.S. citizens.

The stance of the housing bubble was further advocated by determining the ratio of the price of the housing and the renting cost that was observed to show an upward trend around the year 1999. In addition to the determined ratios Robert Schiller, an economist from Yale also developed the linkage that the housing prices that had been adjusted during the inflation had remained constant over a period of time ranging from 1899 up to 1995. Owing to the increasing housing prices and the visible regional inequality, Schiller prediction proves correct of the prominent collapse and disaster of the housing bubble.

Supporting the Subprime Markets

Evidences have mounted the fact repeatedly that in some areas of the U.S. It is comparatively easier and quite cheaper to acquire a subprime mortgage. A study conducted under the supervision of Federal Reserve narrated that contrasting difference between the interests rates imposed on the prime and the subprime market indicates that borrowers with least risk in America have dropped down from 2.8% in 2001 to 1.3% in 2007. Additionally Demyanyk and van Hemert analyzed individually the traits associated with the mortgage and loans are well defined parameters of the macroeconomics and have the power to shape the future form of loan characteristics, in their analysis they also highlighted that the quality of credit granted to new subprime mortgages has shown a downward trend from the year 2001 to 2006.

The increases in the pricing of the houses laid special emphasis on the speculations pertaining to property. Bruce Karatz from KB homes estimated that a few markets 10% to 15% buyers were expected to as speculators. Furthermore Robert Schiller added up to the thought of Bruce that the buyers of the real estate have a general expectation that the price of houses will appreciate by 10% per annum. These consequences ultimately reaped and subprime mortgages were supported (Soederberg, 2005).

The Effect of Bubble Burst

The bubble burst is considered to be the turning point of U.S. economy; this in fact triggered the way for the economic crisis of 2008-09. In the year 2006 a number of factors aggregated and catalyzed the bubble burst. A few of these factors are

1: the average wages of the U.S. workers were constant over a period of time. And since the years 2009 up to 20096 they were observed to decline contributing to inflation and inflated costs of living for U.S. citizens. This decreased wage rate produced a multiplier effect in the economy, the price of living and housing soon became unaffordable and less attractive to invest in.

2: second factor that contributed the bubble burst was the amplified prices of housing supplies. The prices resulted into a bad equilibrium for the market economies.

3: the third factor that contributed was the increase in the interest rate to a rate as…

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