Credit Crunch
Definition:
What You Must Know To
Understand Today's News
People around the world
are tuning into the popular news channels such as CNN to keep up to date with
the economic turmoil, but many of them are confused as to what is actually happening.
This confusion can be cleared up if the definitions of a few critical financial
terms are properly understood. It's difficult to
follow today's economic news if you do not know the definition of a few key terms
that are thrown around in every broadcast and debate. This credit crunch definition
collection will give you the basic information you need to know to follow today's
economic news. Credit Crunch Definition We've
all heard about the credit crunch, but do you really understand the credit crunch
definition? Simply put, a credit crunch is when banks
pull back from extending lines of credit and become stricter on qualifications
for the few loans they do hand out. In a serious credit crunch it can be nearly
impossible to secure a loan without a sizable bank account, full proof income,
and a perfect credit rating. In our current credit crunch
lenders are reducing the subprime loans they extend, but it is still likely that
many people can find a loan if they have a decent credit rating and can prove
their ability to pay with a secure employment history or a large down payment.
So what exactly are subprime loans? Subprime
Lending Definition A subprime loan is one extended
to a person who does not qualify for prime (lower) interest rates. The interest
rate on a subprime loan can be rather high, depending on the circumstances of
the borrower. Most subprime loans are made to people with bad credit scores, a
lot of flaws on their credit reporting, or who cannot prove adequate income to
make the loan payments long term. For one reason or another, a subprime candidate
is seen as risky to the lender and therefore must pay more interest for the lender
to extend a line of credit. Subprime lending is nothing
new. It first became popular back in the 1990s when it was seen as a way for borrowers
to improve their credit. After making timely payments for awhile on a subprime
loan they could then refinance into a prime rate. Unfortunately, lenders began
extending these loans rather loosely, especially for home loans, and the end result
was a high percentage of the loans going into default. This is largely what has
resulted in millions of homes going into foreclosure today. So
what would encourage banks to be so free with their money? Take a look at the
next credit crunch definition. Mortgage Backed Securities
Definition Have you heard of this one in news reports
lately? Probably so, considering it is what made banks feel so secure extending
credit lines totaling trillions of dollars to people who could not afford to pay
them back long term. Here is what it means. Banks take
a group of loans that they have extended to various people and sell them as one
package to an investor. This creates free money that the bank can use before the
loans are actually paid off, and the investor has all of the property attached
to those loans as collateral. This did work while the
housing market was booming in the late 1990s and prices were rising, but the banks
saw dollar signs and started extending credit to large numbers of risky borrowers.
They would collect the fees from originating the loans, then bundle them up and
sell them off to investors. The problem came when a large percentage of those
subprime loans turned bad and the loans were worth far more than the property
held as collateral. You can see here how all of these
credit crunch definitions connect together to deliver the global crunch that is
in effect right now. Banks around the world are trying to stay afloat and undo
the damage that years of loose subprime lending created.
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