When lenders tightened lending standards, the funds available for investment in the housing market reduced. This made the demand for property to go down. A drop in demand eventuated a drop in the cost of properties. When properties were low, investors opted to use available funds and take loans under those strict conditions to resume buying. The demand was however not high enough to call for higher prices (Imbs, 2010).
An adjustable loan mortgage is a mortgage loan with an interest rate that varies with varying market interest rates. The rate is constant for a short period, usually two or three years before it starts varying.
Consumers are unlikely to be attracted to an adjustable rate mortgage. This is due t the fact that its unpredictability translates to risks on the consumers side. The rate of interest rises so high that eventually it may become unmanageable (Glaeser, Gyourko, & Saiz, 2008).
The presence of loose underwriting standards made people interested to take loans. The loans were given to even those who had a history of default. When many people applied for mortgages, the housing market became flooded. At the same time, people started defaulting owing to the poor regulations that had been used to award these loans. Everyone panicked and sought to sell their houses. The flooding of the market led to a drop in prices. When that happened, borrowers decided to default since they could not repay their loans and even selling the houses would not raise the money that would be required to repay their debts. When foreclosure activities accelerated, banks started making losses as they sold properties on lower values (Glaeser, Gyourko, & Saiz, 2008).
Glaeser, E. L., Gyourko, J., & Saiz, A. (2008). Housing supply and housing bubbles. Journal of Urban Economics.
Imbs, J. (2010). The First Global Recession in Decades.
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