Monetary and fiscal policy are government attempts to smooth the business cycle,

Question

Monetary and fiscal policy are government attempts to smooth the business cycle, especially the use of expansionary policies to return to GDP growth from a recession. The goals are relatively short-term, not more than 5 years. Long-term growth, however, is arguably more important.

A) Like the Great Depression of the 1930’s, the Great Recession of 2008 will be studied for many years. Many causes have been identified for both periods. In a short paragraph, explain one of the many causes of the Great Recession.  

Explanation / Answer

One of the prime causes of recession of 2008 is “subprime lending”.

Under the subprime lending, Lenders offered and approved loans to those home buyers whose credential were in doubt. These lending were initially done on an attractive low interest rate to borrowers without income / employment proof. Even loans were issued without any upfront payment of 15% or 20% from the borrower side. Later on, home loan buyers could not pay the loan and defaulted. It became the basic reason for the fall of few investment banking firms. Inside of this subprime lending, complex instruments named as collateralized debt obligations were developed and credit rated by the credit rating agencies. These ratings were also not at par with the guidelines as agencies were being paid by the investment banks. Later on, the bubble burst and economy went in to the recession.

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