How to Take the Sting out of the Credit Crunch; as the Credit Crunch Is Blamed for Pushing the Cost of Living Up by 12%, Greg O'Keeffe Looks at How You Can Survive the Economic Crisis
Byline: Greg O'Keeffe
WHAT is the credit crunch - the most doom-laden phrase on the tips of everyone's tongues at the moment?
But for all the columninches and clogged-up airwaves obsessing about the big CC, there are still lots of ordinary people who don't know what it is - or what to do about it.
Put simply, a credit crunch is a sudden reduction in the availability of loans, or credit, or a sudden increase in the cost of obtaining a loan from the banks.
What causes a credit crunch?
Acredit crunch is generally caused by a reduction in the market price of previously "over-inflated" assets, like housing, for example.
Some experts say we are now experiencing the bubble-burst after a decade of economic prosperity and generous loaning by banks.
Only last week, governor of the Bank of England Mervyn King said the UK faced its "most difficult economic challenge for two decades".
He also made it clear that inflation would continue to rise, while growth and house prices were likely to fall.
Mr King also warned that real take-home pay would stagnate, making life difficult for some families Elsewhere, however, financial observers believe that despite all the doom and gloom, the impact is still not being generally felt to the level that was anticipated. Worryingly some add this could even be the calm before the storm.
What has happened this time?
The culprit, analysts say, is the 2007 US sub-prime lending crisis.
Sub-prime mortgages are high-risk loans made to homeowners with poor credit ratings. These borrowers are more likely to default on their loans since they already have financial problems before taking on the loan.
After the US banks issued sub-prime loans to homeowners, they sold these loans - which pay higher yields to compensate for the high risk - to investors.
Attracted by the higher yields, a number ofmutual funds and hedge funds in the US invested in these loans.
Beginning in late 2006, many sub-prime mortgages went bad as homeowners ran into financial difficulty. As a result scores of sub-prime mortgage lenders started to fail and file for bankruptcy due to rising incidents of sub-prime foreclosures.
The losses to some of the hedge-fund companies were significant and even some investment banks collapsed.
Naturally the reaction on the US market was to tighten credit conditions - but this in turn caused volatility and panic in the US stock market, which consequently sent fears to European and Asian markets.
The extent to which European markets rely on the US meant that fears of a recession in north America suggested major repercussions across the pond.
These fears and uncertainties are responsible for driving world stock markets to their recent lows. …