Agricultural and Food Policy
 Agri Outlook Radio
Number 205
What is behind the financial crisis? (4:38 minutes)
Audio/Video Script:
Robert Coats, Ph.D.
Extension Economist and Professor
University of Arkansas, Division of Agriculture
I'm Robert Coats Extension Economist University of Arkansas Division of
Agriculture.
What is behind the financial crisis?
The President, Congress, Federal Reserve and the Securities and Exchange
Commission are implementing an ongoing comprehensive set of actions to reduce
the mounting stress the U.S. financial system is experiencing.
Our financial system’s underlying weakness is the illiquid mortgage assets.
This problem was caused by the housing contraction which was brought on by
declining asset values. Some parts of the U.S. have experienced greater losses
than other parts of the U.S. Arkansas has not experienced the rapid decline in
housing prices that some large U.S. population centers have experienced.
These illiquid mortgage assets are simply choking off the flow of credit,
they are freezing up the financial system. The President, Congress, Federal
Reserve and the Securities and Exchange Commission are focused on maintaining a
reasonable level of economic momentum in our economy by taking measures that
will once again have money and capital flowing freely.
The problem, aggressive and lax lending practices became all too common,
almost a normal operating procedure in the earlier part of this decade. They
were one way to stimulate the economy and advance economic momentum. This
finally led to both irresponsible lending as well as irresponsible borrowing.
Notice I point to a problem with both lender and borrower.
The underlying belief was that in this amazing new global economy real estate
values would continue to climb. The new borrower wanted their share of the
American dream and the housing lender was meeting or beating his competitors’
price, which resulted in some lenders making increasingly risky loans.
Global competition and softness in global economic activity rapidly reduced
profit margins with one consequence being loss of U.S. jobs and declining income
for many. This set the stage for families with mortgages, that in many cases,
they could not afford in the first place, to lose their homes. Today the impact
is seen in government statistics with 5 million homeowners now delinquent or in
foreclosure.
As you would expect, the original subprime problem has impacted other housing
mortgages and even commercial property.
As the homeowner and housing sector goes, so goes the lender who made the
mortgages, the securitizers who bought, repackaged and resold them, and finally
the investors who bought the paper. In other words a very vicious cycle emerged.
These illiquid assets are parked and sitting on the balance sheet of a number
of banks and other financial institutions. What is the federal government doing
to resolve the financial crisis? They are working to implement a program that
will remove much of the toxic assets that are compromising the viability of
financial institutions and threatening orderly economic day to day activity in
this country.
Will the rescue effort be successful? There has always been and always will
be periods when economic times are outstanding, very good, typical, bad, and
very bad. The economic times today are very bad, but they can and will be managed.
This mistake will likely not be made again, but we will make other mistakes,
because the process of learning goes on with each passing day.
As for Arkansas’ situation, it appears that if all states were as sound as
Arkansas the federal government would not be in crisis mode.
This has been Robert Coats Extension Economist University of Arkansas
Division of Agriculture.
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