How The Subprime Crisis Here Hurt Global Economy
BOSTON–Financial research and consulting firm Celent is attempting to explain how the subprime crisis here in the U.S. precipitated a major global economic downturn in its recent report titled, “Pathology of the US Mortgage Crisis.”
The core of the recent turmoil is an altered mortgage business model, the report suggests. With the remarkable growth in securitization, the simple “originate and hold” model has evolved to incorporate an alternative and more complex “originate to distribute” model. The incentives in this model have encouraged large-scale production of low quality mortgages.
Diffuse distribution of risk followed in this context, the report said, as credit risk was removed from the originating institutions and dispersed via the capital markets in the form of risk-bearing securities. The drop in U.S. housing prices precipitated high default levels among over-leveraged borrowers, which in turn had an impact on the securitization market to financial institutions around the world.
“Despite its evolution, the ‘originate to distribute’ model has not become obsolete,” said Mayiz Habbal, SVP of Celent’s Securities Investments group and co-author of the report. “There will still be a need for securitization and investors willing to hold the resulting bonds. As such, this model is here to stay. However, it will undoubtedly change and be derisked.”
Discover US Spending Monitor Falls in March
RIVERWOODS, Ill.–The Discover U.S. Spending Monitor reached a new low in March as consumers grew more concerned about the economy and their personal finances in the face of rising monthly expenses.
The March monitor fell to 85.1, down more than a full point from the previous month and lower by 11 points than just six months ago, Discover said, noting that its monitor steadily drifted downward during the middle half of March as reports of financial troubles with Bear Stearns, record high oil prices and an emergency rate cut by the Federal Reserve gave consumers little optimism about the economy.
Survey results also showed consumers sharply underestimated their spending intentions for March. In February, 29% said they expected to spend more in March. When asked about their actual March spending, however, 46% reported they were spending more. The 17-point increase appears driven by sharp increases in household expenses such as gasoline, food, and mortgages. In turn, consumers plan to cut back their discretionary spending and even savings to help make ends meet.
In March, there was a 12-point increase–from 40% to 52%–in the number of consumers who expect to spend more next month on household basics. Just under half of consumers are cutting back on discretionary expenses such as dining out, going to the movies or sporting events, and nearly 46% plan to spend less on home improvements or major personal purchases such as taking a vacation.
Credit Manager’s Index Sees 1st Economic Contraction
COLUMBIA, Md.–For the first time since the Credit Manager’s Index (CMI) was calculated in February 2002, the March 2008 combined index has fallen below the crucial 50 level, indicating an economic contraction.
It was the sixth decline in seven months, and a record six of 10 components fell. The service sector fell below 50 for the second consecutive month, while the manufacturing sector tied a record low of 51.0.
“The information in the report confirms other national data, such as negative growth in non-farm payrolls, record home foreclosures and real retail sales falling year over year, which indicate that the economy is almost certainly in recession,” said Daniel North, chief economist for credit insurer Euler Hermes ACI.
While the Federal Reserve Bank has reacted quickly, it takes up to a year for Fed interest rate cuts to have their full effect, he said, adding, “when that happens, and when the housing market finally regains its footing, then the economy will begin to recover, perhaps by the end of 2008 or the beginning of 2009.”
“It’s no surprise that the housing market is the main culprit, but some respondents are pointing towards the economy in general,” he said. “It would appear that trade credit conditions in the manufacturing sector are beginning to succumb to the weight of the economy.”
“It was the sixth consecutive decline, and in fact the service sector has declined 15 times in the past 18 months as the virtual depression in the housing market has driven the index steadily down,” North said. “While only four components declined this month, they more than outweighed those that rose.”
The CMI is put together by the National Association of Credit Managers.
