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Building home equity

This image is photograph of a woman holding a “sold” sign.
Many people choose to purchase their home rather than rent. This chapter explores how the global financial crisis has influenced home ownership. (Credit: modification of work by Diana Parkhouse/Flickr Creative Commones)

The housing bubble and the financial crisis of 2007

In 2006, housing equity in the United States peaked at $13 trillion. That means that the market prices of homes, less what was still owed on the loans used to buy these houses, equaled $13 trillion. This was a very good number, since the equity represented the value of the financial asset most U.S. citizens owned.

However, by 2008 this number had gone down to $8.8 trillion, and it declined further still in 2009. Combined with the decline in value of other financial assets held by U.S. citizens, by 2010, U.S. homeowners’ wealth had declined by $14 trillion! This is a staggering result, and it affected millions of lives: people had to alter their retirement decisions, housing decisions, and other important consumption decisions. Just about every other large economy in the world suffered a decline in the market value of financial assets, as a result of the global financial crisis of 2008–2009.

This chapter will explain why people buy houses (other than as a place to live), why they buy other types of financial assets, and why businesses sell those financial assets in the first place. The chapter will also give us insight into why financial markets and assets go through boom and bust cycles like the one described here.

Introduction to financial markets

In this chapter, you will learn about:

  • How Businesses Raise Financial Capital
  • How Households Supply Financial Capital
  • How to Accumulate Personal Wealth

When a firm needs to buy new equipment or build a new facility, it often must go to the financial market to raise funds. Usually firms will add capacity during an economic expansion when profits are on the rise and consumer demand is high. Business investment is one of the critical ingredients needed to sustain economic growth. Even in the sluggish economy of 2009, U.S. firms invested $1.4 trillion in new equipment and structures, in the hope that these investments would generate profits in the years ahead.

Between the end of the recession in 2009 through the second quarter 2013, profits for the S&P 500 companies grew to 9.7 % despite the weak economy, with much of that amount driven by cost cutting and reductions in input costs, according to the Wall Street Journal . [link] shows corporate profits after taxes (adjusted for inventory and capital consumption). Despite the steep decline in quarterly net profit in 2008, profits have recovered and surpassed pre-Recession levels.

Corporate profits after tax (adjusted for inventory and capital consumption)

Corporate profits after tax were around $500 billion in 2000 and climbed as high as $1,400 billion around 2007 before plummeting down around $600 billion in 2009. 2013 reports showed corporate profits after tax were around $1,800 billion.
Until 2008, corporate profits after tax have generally continued to increase each year. There was a significant drop in profits during 2008 and into 2009. The profit trend has since continued to increase each year, though at a less steady or consistent rate. (Source: Federal Reserve Economic Data (FRED) https://research.stlouisfed.org/fred2/series/CPATAX)

Many firms, from huge companies like General Motors to startup firms writing computer software, do not have the financial resources within the firm to make all the desired investments. These firms need financial capital from outside investors, and they are willing to pay interest for the opportunity to get a rate of return on the investment for that financial capital.

On the other side of the financial capital market, suppliers of financial capital, like households, wish to use their savings in a way that will provide a return. Individuals cannot, however, take the few thousand dollars that they save in any given year, write a letter to General Motors or some other firm, and negotiate to invest their money with that firm. Financial capital markets bridge this gap: that is, they find ways to take the inflow of funds from many separate suppliers of financial capital and transform it into the funds desired by demanders of financial capital. Such financial markets include stocks, bonds, bank loans, and other financial investments.

Visit this website to read more about financial markets.

Our perspective then shifts to consider how these financial investments appear to suppliers of capital such as the households that are saving funds. Households have a range of investment options: bank accounts, certificates of deposit, money market mutual funds, bonds, stocks, stock and bond mutual funds, housing, and even tangible assets like gold. Finally, the chapter investigates two methods for becoming rich: a quick and easy method that does not work very well at all, and a slow, reliable method that can work very well indeed over a lifetime.

Questions & Answers

what are the sources of monopoly power?
Winnerman Reply
what is imperfect competition ?
SHAH Reply
the situation in which elements of monopoly ( R&D, EOS and stability of prices etc.) allow individual producers or consumers to exercise some control over market prices
how to find shut down
Sowmya Reply
where p is less than avc
which is the best public finance economics text book?
Yes hi
what are the alternatives various of economic system
olaleye Reply
what is microeconomics
Micro-economics refers to the branch of economics which deals with smaller unit or element of the economy.
or Is the study of individual economic unit in a economy..
micro economis is the studay of how Households and firms make decision and they interecr it.
what is financial intermediaries?
Imran Reply
financial intermediaries are those who are link between borrowers and lenders for.eg bank... Bank is a financial intermediary
tnx a lot of u
most welcome
why do you here ? why do you want to learn economics
والله العظيم انا ماعاوز اتعلمها
انا باخدها غصب عني في الكليه حضرتك
لس كدااا
I am student of ecnomics ,
yes Abdi temam
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b/c im student
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what is the law of dimis
Toyin Reply
what is the feature of public ownership of production factors
what is the demand for commodity that posses identical utilities called
law of diminishing utility...as the quantity consumed of a commodity increases,the utility derived from each successive unit goes on decreasing... condition___ consumption of other commodities remaining the same.
sorry it's...Law of diminishing marginal utility
demand for commodities that posses identical utilities? The commodities having identical utilities are perfect substitutes...and the demand for such type of commodities is called "Competitive Demand".
Why many people can't differentiate Economists and financial analysts
what is the function of the central bank in an economic?
the central bank may lend some money to banks if necessary
what economics
Toyin Reply
Is this a question?
is the study of how societies allocate and manage their scare resources
What is populatiin
Azer Reply
Population is a number of people living in a particular area within a particular time
Population is the number of people living in a particular geographical area within a particular time
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ya the ideas are good thanks friends
so what's the next question?
what is demand schedule
Toyin Reply
is a tabular representation of the quantity demanded of a particular product at a particular price over a given period of time
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What is Monetary Mass
Acha Reply
who is product of traditional economy
jamal Reply
what is elasticity
Suqlain Reply
change in quantity due to change in its price
degree of responsiveness of quantity demanded or supplied due to price.change
The law of demand and supply
Law of demand...keep other things constant when price of commodity increases demand is decreases n price decreases demand increases.
law of supply.. keep other things constant when commodity prices increase supply is also increased n price decreases supply is also decreased.
Thank you
when prices increases causing demand curve to shift to left holding other variables constant.
what is the difference between quantity demanded nd price
Survival Reply
what is the difference between quantity demand and price
There is an inverse relation between price and the quantity demanded...with the increase in price of a commodity, the demand for the commodity decreases and vice versa..
professor lionel Robbins define economics as a
as the science that studies human behavior as the relationship between earn and scarce means which has alternative uses
study of wealth

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Source:  OpenStax, Principles of economics. OpenStax CNX. Sep 19, 2014 Download for free at http://legacy.cnx.org/content/col11613/1.11
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