Alan Blinder’s book “After the Music Stopped” describes one of the biggest financial crises of recent decades, the 2008 economic crisis. The author examines the causes of this phenomenon, calling them “villains” that contributed to the economic crash’s growth and unfolding. Blinder describes how giant price bubbles formed in the US mortgage-bond and housing markets after 2000. The government’s poor regulatory policy resulted in a severe economic downturn that slowed the economy down for years. This essay will consider two “villains” of different origins. The most famous cause of the crisis was the housing bubble, and the other side of the economic process was the problem of market regulation.
The nature of the housing bubble is deeply intertwined with the nature of the mortgage. A mortgage is a large bank loan received by a person who agrees to repay a portion of the amount and interest each month. If the borrower stops paying, then the mortgage owner (often the bank resells the loan) gets the house (Blinder, 2013). Before the 2000s, getting a mortgage was difficult, as a person had to have good reasons that the payments would be secured (Blinder, 2013). Banks dealt with each client individually, checking with what probability a person can pay off a mortgage.
In the 2000s, American and foreign investors, looking for a market with high profitability and low risks, turned their attention to the US housing market. To avoid dealing with individual clients, they bought mortgage-backed securities, a large number of mortgages that are then resold in shares to investors (Blinder, 2013). House prices were constantly rising; thus, investors and ordinary people saw property as a profitable and safe investment. Interest in the housing market was fueled continuously, which continued to inflate home prices, which attracted more investors and buyers to the market. The situation turned out to be a vicious circle since the higher prices grew, the more investors there were, the more prices increased.
The greater the demand for mortgage-backed securities, the more mortgages the banks wanted to give since their resale was highly profitable. Banks had to lower their lending standards and start issuing unsecured loans to low-income people. They even began luring people into mortgages, offering loans at low repayments to begin with, which then quickly increased (Blinder, 2013). This meant an increase in the risks associated with purchasing mortgage-backed securities, but investors did not pay attention to this.
The rapid increase in prices, based not on fair market value but irrational behavior, leads to the emergence of economic bubbles. Many people could not pay their mortgages anymore, and others were no longer willing to buy property at such high prices. Many houses were usually back for sale, but there was no more demand for them. House prices began to plummet, leaving people with depreciated home and disproportionately high mortgages and investors with bad loans.
Another reason for the growth of crisis phenomena can be found on the opposite side. This “villain” was the thoughtless deregulation policy, which the Bush government adopted at all levels (Blinder, 2013). Banks were allowed the freedom to operate in subprime lending, which allowed them to take out unsecured mortgages and dispose of them by reselling them to investors. Problems in the market could be noticed in advance, as “subprime mortgages constituted a mere seven percent of all mortgages granted in 2001″, and by 2005 they amounted to 20 percent (Blinder, 2013, p. 57). The Federal Reserve, led by Alan Greenspan, announced a policy of complete confidence in banks, assuming they would avoid risky investments.
In my opinion, the government’s overly libertarian regulatory policies have contributed the most to the crisis. The market constantly generates speculative, dishonest, or harmful practices that provide quick profit. The task of state regulation is to track these trends and control their negative manifestations. However, rather than focusing on the market heating up with bad loans, the government launched a new credit default swap (CDS) policy (Blinder, 2013). The CDS acted as an investor’s insurance policy in the event of a bond default, which only reassured the public that the housing market was safe and secure. Furthermore, CDS sales were unregulated and unsecured, so the insurance companies that sold them went bankrupt.
The government regulating subprime lending and mortgages could have avoided or mitigated the crisis. Instead of relying on economically calculated mathematical banking models, the government could issue rudimentary restrictions making it illegal to give mortgages without sufficient financial justification (Blinder, 2013). Moreover, the government could prevent banks from increasing mortgage payments over time by making them fixed. Restrictions could be imposed on the mortgage resale, in which case banks would be forced to calculate whether customers would be able to repay the loan.
In the final part of his book, Blinder describes the titanic efforts of the state to save the banking system and the entire economy from an imminent recession. It was done with the money of taxpayers, who felt the general effects of the crisis, which affected not only the financial and housing markets. The growth of bubbles in the market showed that economic actors are not rational and are chasing momentary profit. The authorities must conclude that without strict and effective state regulation, crises will repeat themselves.
Blinder, A. S. (2013). After the Music Stopped: The Financial Crisis, the Response, and the Work Ahead. Penguin Press.