Will the Bubble Burst Be Revisited

Abstract

The debacle of financial system in the United States in 2008 has been attributed to the subprime lending in mortgage sector, securitization of these subprime mortgage loans and taking aggressive positions in the resulting mortgage backed securities (MBS) and corresponding opposite positions in credit default swaps (CDS). The subprime loans during 2008 constituted 41% of total consumer lending. Absence of regulations along with improper assessment of liquidity in the financial system fueled the ripple effect of recession across the world. Since then, many regulations have come into place across various jurisdictions thereby increasing transparency, strengthening the KYC norms and improving the regulatory oversight. However, since the start of the financial crisis (in 2008), loans to customers with low credit scores have increased drastically. This time the bubble is not in the mortgage markets, but a bubble is being formed in the Auto loans, personal loans and credit cards markets. Specifically, the rise in the subprime loans in Auto sector calls for a caution. These loans are given to customers with low credit scores by various financial institutions and non-financial institutions.