Repercussions of the Fall in Housing Prices II

In 2006, housing prices declined in the United States, and the problem spread beyond homeowners, affecting financial institutions as well.

Financial institutions had invested heavily in mortgage-backed securities. These securities depended on mortgage payments from homeowners.

As many homeowners, particularly those with subprime mortgages, stopped making payments and defaulted, mortgage-backed securities lost value, affecting financial institutions.

One example of this was the collapse of Bear Stearns in 2008. As mortgage-backed securities lost value, the firm faced large losses. Bear Stearns was acquired by JPMorgan Chase with support from the Federal Reserve.

Days later, Lehman Brothers, which was a large global financial services firm, declared bankruptcy.

The government also had to step in because the financial system was at risk of collapsing, since these institutions had become highly interconnected. For example, AIG, a large financial institution, was bailed out by the government.

In short, payment defaults by homeowners reduced the value of financial assets, led to the failure of major financial institutions, and prompted government intervention.