Lecture_16

Lecture_16 - Lecture 16 Econ 2 Tracking the Economy...

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Lecture 16 Econ 2
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Tracking the Economy
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Tracking the Economy
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Tracking the Economy
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Housing The subprime mess Some facts Home foreclosures up
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Foreclosures Up 79% since 2006 Subprime defaults around $300 billion
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Subprime Lending The term subprime refers to: A) Borrowers who pay less than the prime rate B) Low quality/high risk borrowers C) Low quality lenders or banks D) The Fed Funds rate less than the prime nominal rate
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Subprime Lending The term subprime refers to: B) Low quality/high risk borrowers
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Prime and Subprime Refers to the type of borrower Prime borrowers Lower risk Good credit history High income
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Prime and Subprime Refers to the type of borrower Subprime borrowers High credit risk Poor credit history Low income Borrowers who do not qualify for “market” interest rates
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Setting Dotcom “bubble” burst early 2000 Sept. 11, 2001 Fears that the economy would head into a recession
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1950 1960 1970 1980 1990 2000 2010 0 2 4 6 8 10 12 14 16 18 20 Monthly Effective Fed Funds Rate Percent Rate Year Recession fears
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Lots of Liquidity Fed cut rates i.e., bought bonds Price of bonds up Interest rate down So, lots of money (liquidity) in the system
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0 1 2 3 4 5 6 7 8 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 TAYLOR RULE Percent, quarterly Effective federal funds rate Inflation target: 1%, Equil. real rate: 2.5% Inflation target: 3% Equil. real rate: 1.5% i ff = (r* + π )+ 0.5 (y-y*) + 0.5 ( - *) “considerable” “patient” “measured”
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Investors With low interest rates and lots of liquidity, investors sought higher returns from riskier investments
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Where we are today
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Lecture_16 - Lecture 16 Econ 2 Tracking the Economy...

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