There are three main reasons behind the US economic problems currently; sub-prime mortgage lending, bursting of the housing bubble and the overspending of the citizens.
Sub-prime lending is when financial institutions give out loans to financially unworthy customers. These customers are people who have poor credit histories and do not meet the required credit scores. These loans are considered risky, especially in the event that the individual cannot pay back the debt.
The current sub-prime mortgage crisis occurred when banks in America started giving out poor mortgage loans to hopeful home owners. The housing boom from 2001-2005 caused everyone to want a slice of the ever increasing pie. Citizens with poor credit ratings started to apply for mortgage loans to get involved in the housing market. Banks, seeing as how the demand for housing was going up, started to issue sub-prime mortgage lending to consumers.
In addition, interest rates were very low at that time. This was primarily due to the attacks from September 11 and the dot com crash of the early 1990s. The FED had set low interest rates in hopes of stimulating the economy.
Many banks had also started to compete for the housing mortgage; in hopes to attract the maximum number of consumers and hence, achieve highest ‘paper’ profit (paper profit because these banks were assuming the loans would be paid back with interest). These banks were also at their own discretion as to how many of these loans were to be given out. Technically, more loans would equate to more profit. Hence, sub-prime mortgage loans were being given out liberally. As a result of this, the housing market boomed due to the surge in demand for houses. This high demand led to an increase in the valuation of housing prices.
Hence, the housing bubble was created. The housing bubble was an artificially high valuation of prices in the housing market. The intrinsic value of the houses was in fact much lower than the prices at which the...