Subprime loans are said to be among the biggest reasons for the most recent financial crisis which hit the world economy at the end of year 2008. Had the lenders considered the level of income and repaying abilities of the borrowers before lending them money, the World's financial sector would not have seen such critical circumstances. The consequences of subprime loans have not ended yet; economists and researchers in the field of International Finance are of the view that they may further get worsen in the coming five to ten years period. Beside the criticism regarding the approval of subprime loans to low income borrowers, the lenders have also been strongly criticized for using unethical business practices in their customer dealings and transactions (Mandal, 2010).
This paper investigates the consequences and risks that were caused by subprime loans in the World's financial sector and their impact on the lenders, borrowers, and the whole World economy. The focus of the paper is towards discussing subprime loans and relevant risks and consequences from an ethical standpoint, i.e. what are the areas where lenders got engaged in unethical business practices or took steps that are considered unscrupulous and fraudulent in the business world.
1. Fraudulent Financial Dealings:
Fraudulent financial dealings involve all types of activities that intend to deceive others; either to get personal advantage or financial benefit for the business. Individuals, businesses, and Governmental bodies get engaged in fraudulent financial dealings for different purposes. Individuals and businesses use illegal ways to turn the circumstances in their own favor. The major examples of fraudulent financial dealings include theft, cheating, money laundering, counterfeiting, bribery, forgery, robbery, scams, and embezzlement or misappropriation of funds or assets. Generally, the victims of fraudulent financial dealings are individuals and businesses that are directly or indirectly associated with the convicting parties (Jennings, 2012).
Intention behind sanctioning Subprime loans:
In this particular case, the subprime loans were not sanctioned with an intention to make any financial fraud with the borrowers. Rather, the lenders wished to make high revenues in a short period of time by lending these loans to all those people who were in need of money. These subprime loans were offered at quite adjustable rates without looking at the level of income, track record, repaying abilities, or other important aspects of the borrowers. These borrowers also found this opportunity attractive for their future comfort and availed it without considering whether they will be able to pay their obligation back or not (Magdoff & Foster, 2009).
Inappropriate Loan sanctioning criteria:
This activity of lenders can be regarded as a fraudulent financial dealing in a sense that they did not set appropriate criteria for sanctioning loans to the borrowers. They were just concerned with making money from the borrowers' interest payments. This is also a type of misappropriation of funds by the lenders (Goldmann, 2010). For example, the subprime loans that were sanctioned to a large number of borrowers in the United States market and other world economies were generated from the deposits and investments made by other customers and investors respectively. The lenders were obliged to pay these deposits back along with the interest they had promised while getting these deposits. It was a prime responsibility of the lenders to invest the depositors' funds in the most appropriate places. They were entrusted by the depositors by keeping their savings with them in the form of deposits for a specific period of time. This misappropriation of funds led to high recession in the United States housing mortgage industry and the entire financial sector of the World (Donath & Cismas, 2009).
2. Corruption in the Governments:
Governments play an important role in an efficient and transparent functioning of the financial sector of an economy. The Governmental bodies not only regulate the banking and financial institutions through prudential regulations, but also keep an eye on their day-to-day financial activities and business affairs. The Governmental policies and regulations are much more stringent and strict for the primary functions of lenders; including lending and borrowing, insider trading, international trade, foreign exchange management, and internal control. Additionally, regulatory authorities also keep a strong check and balance for the anti-money laundering practices, customer relationship management, portfolio management, and industrial relations management practices of banking companies and financial institutions. All these regulations require the governmental bodies to perform their functions with full scrutiny and transparency. However, corruption and unlawful management practices in government offices make the entire check and balance system ineffective (Mandal, 2010).
While subprime loans were being sanctioned to the borrowers, the governmental bodies did not show a responsible reaction towards them. This thing facilitated the use of illegal and unethical business practices in different functions. For example, the lenders used very relaxed terms and conditions as a part of their loan sanctioning criteria, set the interest rate to a very low point, and chose the customers without proper investigation or verification. This irresponsible behavior of the governmental authorities led to serious recession in the world's financial sector.
3. Record Keeping:
Unethical business practices are also found in record keeping. For example, when businesses or governmental agencies have to maintain the records of their stakeholders, they deal with biasness and favoritism by misrepresenting the facts and figures and molding the circumstances in favor of one party and against the opposing parties. A good example of unethical practice can be observed when brokers do not maintain proper records of their customers. They are responsible to keep complete records of the transactions, bidding history, shares held, ownership status, and other important information of each of their customers separately. Misrepresentation is found when they manipulate the facts and figures and show them higher or lower than the actual state of customer's affairs (Jennings, 2012).
4. Cheating Customers and Insider Trading:
Customers can also be cheated by brokers by showing wrong figures for their actual returns on investments. For example, if a customer earns a high return for his investment, the broker can keep a higher commission and transfer lesser amount to the customer's account or use insider trading to deceive the customer and make higher income. This activity may give the broker a greater amount for his services, but will exclude this transaction from lawful business practices. In the case of subprime loans, the customers were not either guided in their choice for availing loan facility nor were they conveyed with the actual profits which brokers and lenders were going to make from them.
5. Unauthorized Transactions:
Unauthorized transactions involve all those business dealings that are either prohibited by the Law but for a specific group of people or are completed regarded as illegal from an ethical or legal point-of-view. For instance, some transactions may not be allowed to the general public to do in their daily life, e.g. importing ammunition from international markets, buying or selling products that are banned by the Government, or get engage in such services that may bring harm to the other members of the society. Unauthorized transactions may also restrict all the general people and allow a small group of specialized people. Adherence to the Laws and regulations for authorized and unauthorized transactions is the responsibility of every individual and business entity in a country (Mandal, 2010).
6. Misuse of Customers' funds for personal gains:
Some brokers and agents use their customers' funds for making personal investments without getting permission from them. This activity is quite unethical as there are a large number of risks and uncertainties involved in every investment which can turn against the brokers' choices of portfolio and put them under heavy financial difficulties. If brokers do not have sufficient funds to pay the principle amount to their customers, the risk will ultimately be borne by the customers themselves. The Law strictly prohibits the dealers, brokers, financial…