The 2008 financial crisis was one of the biggest financial meltdowns the country has ever seen. The
financial crisis was caused by several reasons. In this paper, I will explain what caused the system to fail.
On September 11,2001, the world trade center was destroyed by a terrorist group. The tragedy took
many people’s life. Fear permeated throught the US so people stopped pu’ng money in the bank,
people decreased their spending, and they. The federal government wanted to mo(vate individuals to
invest so the federal reserve lowered the prime rate to 1%. The low interest rate encouraged more
investors to borrow from Banks and use that money to invest and start new businesses. The plan
worked, people started to borrow money, people started inves(ng and the economy was growing at an
unprecedented rate. The Housing market was ,ourishing, at one point ,70 percent of the US popula(on
owned homes.
During the housing bubble, CDO’s and credit default swap became very popular instruments.
CDOs(collaterized debt obliga(ons) are basically a pool of fixed income assets ranging from credit card
debt, student loans or mortgages. A CDO is issued by a bank or another en(ty then the underlying assets
(collateral) are transferred to a special purpose vehicle/en(ty (SPV). The SPV issues the securi(es backed
with cash ,ows generated by assets in the collateral pool. The collateral pool is made up of three
di7erent tranches or basically level or risk. The first tranch is senior, which is considered to be the least
risky tranch out of the three so it o7ers a low return. Mezzanine is the second tranch; it has a medium
risk so it o7ers a be:er return than senior tranch. Equity is the last tranch and it’s the most risky tranch
out of the three so it gives the highest yield compared to the other two. CDO were very popular
