Buy custom The United States Economic Crisis essay

1        Introduction

America has the largest economy in the world with a nominal GDP of about $14.7 trillion, according to 2010 estimates, which is about a quarter of the global GDP. Moreover, for a long time, United States has maintained about a fifth of the entire purchasing power parity of the world as well as among the highest level of per capita output. Its per capital output of $46,381 is the 6th in size largest worldwide (Henry, 2001). Throughout history, the economy of American has recorded low levels of unemployment, stable growth rate, and high capital and research investment. With a global manufacturing output of about 19%, the nation has been the largest manufacturer and home to 140 out of the 500 largest companies in the world. These successes have mainly been due to a stable and a strong dollar currency. While about 60% of the global reserves are held in dollar currency, the euro controls only 24% despite coming second to the American currency (Henry, 2001). In America, there is economic freedom, and the private sector is allowed to make most of the economic decisions, in effect ascertaining the scale and direction of the economy. The government’s involvement and regulation are low, and the judicial systems enforce contracts and protect property rights. 

Nevertheless, American economy is experiencing the worst challenge since its Great Depression. It has resulted from, among other factors, bad economic policies of the financial institution. The current crisis was sparked by troubles in the mortgage market especially subprime mortgages. These troubles led to bank losses that reached a high 33% of their total capital resulting into a sharp decrease in leading. The leading reduction in turn has caused an intense economic recession. This paper examines the root causes of the present challenges, evaluates its adverse effect, and probes the economic policies that the government is currently pursuing to alleviate the crisis. Its last section proposes a recommendation that calls for extra radical fiscal policies to speed up the rectification process (Debra, 2010).

2        Background of the Crisis

2.1  Evolution of the Crisis

During the entire post-World War II period, the American economy has been witnessing declines in the profit. Between 1950 and 1975, profit rate declined by almost a half, from 22 to 12 percent. This decline was, however, noted to be in line with the general global trend over the period, and it impacted almost every capitalist nation. The decline resulted into higher inflation and unemployment (Associated Press, 2006). The minimum wage fell as the supply of labor force exceeded demand. Additionally, the declining profit rates reduced investments, leading to even higher unemployment levels and slower growth. During this time, the American government, just like several other capitalistic governments around the world, adopted expansionary monetary and fiscal policies which made it spend more, while lowering the interest rates and taxes with the aim of enhancing the circulation of money in the society. These policies proved counterproductive as they lead to further rising in inflation rates. The government made further mistake by raising prices instead of increasing employment and output levels. This was in an attempt to rapidly restore the profit rates in order to inspire investments from the private sector. By 1980, financial capitalists were revolting against the high-inflation rates; a move that forced the government to implement more restrictive policies such as tighter monetary policy. The policies included raising the interest rates in order to arrest inflation in attempts to lower unemployment levels (Associated Press, 2006). Some of the policies worked while others deteriorated the situation. This was because the government needed to balance the interest of the investors and the consumers in a careful manner that avoided hurting any of the group.

2.2  The Consequences of the Problem

The loose lending habits caused a rise in housing prices all over the country. The prices sky rocketed after the speculators began purchasing numerous units expecting further increase in prices. By the time the leading declined and eventually halted during 2006-2007, the prices had peaked (Brian, 2005). Unfortunately, the prevailing circumstances of the time led to a sharp decrease in housing worth, which in effect threatened to cause a bust of the entire economy. This lead to four major threats to the American economy. Firstly, there was a rapid decline in spending on durable such as autos and houses. This spending decline caused a decrease in leading to home owners. Secondly, numerous homeowners defaulted on their consumer loans and mortgage payments. The default increased as the house values fell below those of mortgages. Thirdly, following the fall in capital, the banks cut back sharply on their lending and wrote-off bad consumer loans and mortgages. The losses in capital pushed more banks into bankruptcy and forced others to merge in attempts to form stronger banks. Fourthly, the lending retrenchment threatened other loan types which the financial institutions had lend to one another as working capital. This led to the difficulty in securing interbank loans as well as various commercial papers.

The fourth threat could have caused the ultimate collapse as the profitable and solvent enterprises could have been unable to draw in working capital. The employment rate could have soured from 6% to over 10%, causing the economy to fall to the heights of the Great Depression. The third risk could have led to severe recession but not to a level of depression. This could have resulted from the detrimental impairment of financial institutions’ capital as well as the move to write off bad loans. High unemployment could have caused great social hardships coupled with slowed acquisition of major machinery and new buildings. Several non financial enterprises could have possibly been declared bankrupt creating more social problems. The second threat did actually cause distress to millions of Americans as a result of loss of homes as well as being declared bankrupt. Consumers were required to form a habit of saving after an extended duration of heavy borrowing. This resulted to even more distress. The first risk resulted into huge inventory consisting of unsold homes (Cecilia, 2005). This lowered housing demand as well as new constructions. The spending on autos and appliances plummeted causing a significant recession as well as unemployment.

3        Current Status of the Crisis

The crisis has subdued as a result of fiscal policies that have been adopted by the government as well as the sustained investor confidence in the American economy. Another boosting factor is the wide financial base that America posse as a result of varied global investments.

3.1  Steps taken

The government has initiated changes to the regulations that govern leading. These regulations concern how the mortgage loans are to be originated as well as the economy stimulating efforts that need to be taken. The measures are meant to drive the economy out of recession so that the social challenges facing the citizens are alleviated. The government has also provided stimulus packages to bail out the financial institutions, and in effect preventing them from collapse (Cecilia, 2005). Additionally, the federal government has been cutting costs on unnecessary spending so as to facilitate funding of projects such as transport infrastructure.

3.2  The Success of the Steps

The measures have been successful as the economy is back on track. However, the rate of employment creation is lower than expected, and the citizens still resent the government failure to protect their savings. These massive financial interventions have also led to the down grading of the American credit rating, a move that have angered investors in the U.S. treasury bonds like the Chinese.

4        Lessons Learnt from the Crisis

4.1  Policy lessons

The first lesson is the realization that inadequate regulation is as destructive as excessive regulation. Therefore, although the government should avoid regulating free marketing choices, it should ensure that there is disclosure and transparency in these choices. The authorities should implement punitive measures to the violators of the government efforts to ensure effective consumer protection. The crisis has shown that orientation to the short term financial policies can adversely affect individuals’ strategic plans. Therefore, the citizens need to be taught how to avoid deficit spending as the government controls its bailout programs and multiple stimulus packages. The government should not allow unregulated dictation of the economic policies by the private sector (Clifford, 2011). The power of corporations needs to be checked to prevent them from influencing elections as this would compromise the freely elected officials. We should encourage opposing thoughts and independent advice in our policy and advisory committees.

The government should replace those whose policies lead to the crisis to heighten the possibility of favorable results. Persons who favor manufacturing, better education, lower middle class taxes, and favorable balance of trade need to be given a chance to implement their policies. The state should reduce active participation in foreign conflicts, which end up taking a lot of financial resources out of the country. Due to the present-day competition, the government needs to focus on the economy while reducing involvement on external disputes.

4.2  Investment lessons

Consumers need to be cautious when making investment plans. Lack of foresight during investment is what led to loss of huge sums of money by the bankers. Several other consumers lost their savings after investing with fraudulent schemes like the one Bernard Madoff directed. Some of his victims were sophisticated investment enterprises from all over the world that were preyed due to insufficient caution (Brian, 2005). Many investors conducted their activities with limited diligence, and this demonstrates that the risk management and investment strategies need to be reformed.

In addition to academic, statistical, and quantitative expertise; financial analysts and economists who are hired by the government need to have extended durations of business experience. This would help them acquire knowledge on qualitative forces and business drivers that inspire operational and investment decisions. Whenever government economists lack such knowledge, it is difficult for them to determine markets and assets performance accurately. Consumers need to avoid investing through imitation, as this is not strategic. Bernard Madoff cheated numerous people after they followed the lead of large investment institutions. However, as an investor, a person may require to seek advice from a wide range of sources. Whenever investors are informed, they are equipped with the capability to earn profits regardless of the prevailing circumstances. For example, by the end of Great Depression, America had more millionaires than before. This is because it is during these times when the market provides undervalued assets which when carefully picked their resale profits after the recession is massive. Therefore, as with the contemporary world, knowledge is powering during investment. People and governments need to educate themselves prior investing so as to have an edge in business.

To be successful, making the right decision is paramount. However, misinformation leads to wrong decisions and loss of money. Wise investment call for an investor to seek accurate and complete information about an asset, product line, or a project before getting in the process of making decisions. Detailed information regarding micro and macroeconomic conditions is necessary to a government or individual with intent to invest (Brian, 2005). The capability of distinguishing between important and unimportant as well as valid and invalid information is key to an investor’s success. However, due to availability of uncontrollable variables, the accuracy of an investor’s forecast cannot be 100%.

5        Major Stakeholders

Although the government has been making considerable efforts aimed at preventing greater crisis, there is need to incorporate the lesson learnt from the crisis to ensure that success is sustained. These recommendations are likely to be supported by a section of the stakeholders.

5.1  Supporters of the Recommendation

These recommendations are likely to be supported by aspiring property owners, investors, and the government. Those taking up mortgages would like a scenario where the investments they make on borrowed money remain relatively safe from instability in the financial market. Huge loss in property value is not in their interest because they end up losing a portion of their savings, as well as the property they had bought. Genuine investors wish for openness and genuineness in financial dealings. They are, therefore, likely to favor order in the financial market which would result if these recommendations are implemented. The politicians on their part wouldn’t like to lose popularity or take the blame for economic collapse. Consequently, they would favor these policies in order to reduce condemnation and pressure from the public. With regard to this, most national politicians would favor the hiring of competent and capable policy makers and analysts whose policies are most likely to foster growth. With increased employment rate and better living standards, most citizens will opt to maintain the stability by avoiding confrontation with the politicians.

5.2  Major Beneficiaries of the Recommendation

The implementation of these recommendations would mostly benefit the genuine investors. Although most investors found Bernard Madoff’s schemes appealing due to the promised high returns, generally, investors would not trade-off security of their capital for quick earnings. Other major beneficiaries of these recommendations would be the general public, as it would be harder for anyone to swindle their savings away. With a stable financial market, the public would be in a position to make strategic investment plans without the fear of disadvantageous imbalances. The government would also benefit as politicians will not have to live with the guilt of causing a recession or the down grading of the nations credit rating.

6        Potential Solutions to the Problem

6.1  Nationalizing Finance

Whenever there is a financial crisis, governments in the capitalist world usually consider bailout as the only way of alleviating severity and widespread misery. Bailout is at times expensive and may result into further government indebtedness. To avoid such a scenario, the government can consider making the economy less dependent on capitalist investors (Jill, 2010). To enhance this greater freedom from the capitalists, the government should endeavor to become the greatest credit provider for the economy, especially in areas touching mortgages, consumer loans, and later business loans. This would mean nationalizing finance in the public interest. The new mortgage and loan agencies should henceforth be endeavored at achieving affordable and decent shelters for all, disregarding the profit margin. Furthermore, major banks that seem to be in danger of collapsing need to be nationalized so that their operations are focused at achieving  similar objectives to those aimed by nationalizing the mortgage finance. The advantage of nationalization is that it presents more options to a financial crisis, and reduces the powers of capitalist investors, who at times seek to exploit consumers. However, nationalization would require writing-off of huge consumer, mortgage, bank, and business debts in which case the government assumes the responsibility of capitalists’ financial mismanagement. This would be a tricky scenario, which would require experienced and focused strategists to avoid more financial chaos. Furthermore, it may not solve the prevailing economic crisis effectively since the politicians and civil strategists may lack the will and commitment as they have nothing much to gain. Again, many would interpret nationalization as a major step towards socialism as it would model the rest of the national economy.

6.2  Judicial Modifications

There need for judicial modifications to minimize the risks of primary homes falling into bankruptcy whenever there is instability within the financial market. This is because although the second homes and investment properties have for long been adjusting under the current bankruptcy laws, consumers are left to suffer when financial crisis touches on the primary residents. There need to be a chance that primary borrowers would consider seeking relief in Chapter thirteen of the bankruptcy law (Zuckerman, 2008). This would be important as it would require borrowers and creditors to consider negotiating modifications when the risk of losing homes becomes eminent. Although this would safeguard consumers, it would act as deterrence to some investors who would like unforeseen modifications in their arrangements.

6.3  Purchase of loan pools, servicing, and rights mortgages

The congress should pass legislations that allow the treasury to purchase all necessary financial instruments. The focus should, however, be on commercial and residential mortgages, as these are the areas that affect consumers the most. Upon their acquisition, the treasury should then sort them into delinquent and current categories; followed by a sale offer of the current ones on Wall Street. This would serve to generate substantial income for the government as it tackles the risk. Delinquent mortgages should be analyzed and further restructured to ensure that they match the capacity of the borrowers to repay them (Jonathan, 2006). The treasury should, nonetheless, facilitate foreclosure of those that are unsustainable. The restructured mortgages should subsequently be offered for sale on Wall Street. Although this would be viewed as interference, it would help borrowers retain their homes and bring certainty to the financial market through the elimination of troubled securities by replacing most of them with less riskier ones.

6.4  Participation of the Mortgage Servicers

To prevent investors from suing for a breach in services and pooling agreements, greater participation of the mortgage creditors in Treasury programs should be encouraged. This is because their indemnification would result into taxpayers becoming liable for any damages that the participating creditors award to investors (Mary, 2010). Many critics discourage such a situation as it appears unethical to make the citizens suffers for the mistakes of financial capitalist. Facilitating their participation reduces their overbearing bother in cases where a crisis results because they feel part of the cause. However, this serves to increase their power and control in the financial market in a manner that can be counterproductive.

7        Recommendation

The mortgage challenge in America has lead to global economic and financial crisis. This crisis has greatly affected the nations of Eastern Europe resulting into huge financial deficits. The most vulnerable countries in the world have been Estonia, Ecuador, Venezuela, and Bulgaria (Ozgur, 2008). The crisis dawned on Africa much later than the rest of the world. This and other lessons demonstrated that the Treasury should focus on small and medium enterprises because despite being endangered when the industrial consumption reduces, they survive big capital losses better that multinationals. They struggle to retain their labor force regardless of the decline in turnover capital.

The banks should also endeavor to reach mutual agreements with the aim of reducing interest rates as well as foster creditors’ tolerance. The government should discourage drastic measures like housing withdrawals as a result of late payments as it ends up hurting the consumers and making the banks accumulate more properties (Thomas, 2011). This property accumulation cannot lead to funds recovery because the market will have dried out. The government should establish which of its sectors are most profitable so as to focus investment towards them. This would reduce challenges that the government face when fixing non-strategic sectors.




Buy custom The United States Economic Crisis essay

Related essays

  1. Reconstruction Period and America’s Fundamental Developments after the Civil War
  2. Multicultural Contributions to American Society
  3. Reconstruction Period and Americas Fundamental Development adter the Civil War
  4. Military History