Measures to prevent the subprime loan crisis

The Goldman Rule, noted in Watkins article on banking ethics, stated “financial institutions are less likely to engage in ethical behavior where the opportunity cost of such behavior is high” (Watkins, 2011, p. 363).  Gilbert, recognized that predatory lending was … Continue reading →

Subprime loans, social responsibility and the role of leadership

Mingers and Walsham noted that” the Sarbanes Oxley Act (SOX) was brought in to improve corporate governance and ethical business practices through legislation in area such as increased accountability and strengthened financial control” (Mingers and Walsham, 2010, p. 834).   SOX established the governance content process for financial accountability however it did not establish an outline as to how the company should disclose the content. The gap left open in this legislation is where the ethical leader is most warranted.  Brown et al. 2005, p. 120, (cited in Avey, Wernsing, Palanski, 2012), defined ethical leadership as ‘‘the demonstration of normative appropriate conduct through personal actions and interpersonal relationships, and the promotion of such conduct to followers through two-way communication, reinforcement, and decision-making’’(Avey, Wernsing, Palanski, 2012, p.22).

Lebovits wrote, “ethical behavior starts at the top” (Lebovits, 2006, p. 1). The transparency of the information disclosed remains in the hands of the Chief Executive Officer (CEO) and Chief Financial Officer (CFO) and with lessons learned through the actions of Tyco, Enron, and WorldCom, leaders are responding to even the broadest of requirements, established by SOX.  “Pressure is placed on organizational leaders to perform at a high level under these uncertain and equivocal conditions, solving problems and making quality decisions while maintaining ethical standards” (Thiel, Bagdasarov, Harkrider, 2012, p. 51).  Bridges noted that “social responsibility for businesses extends far beyond making a profit; it commands that companies provide an ethical due diligence to all of it stakeholders” (C. Bridges, personal paper, August 12, 2013).

When a company fails it is primarily the result of the actions that are executed from a decision made by leadership.  Some decisions are a direct reflects of management and some are not.  Gilbert wrote, by virtue of position, managers have the responsibility to maximize wealth, but more importantly, they have a duty to make policy decisions which validate their stakeholders (Gilbert, 2011).

Avey, J., Wernsing, T., & Palanski, M. (2012). Exploring the Process of Ethical Leadership: The Mediating Role of Employee Voice and Psychological Ownership. Journal Of Business Ethics, 107(1), 21-34. doi:10.1007/s10551-012-1298-2

Lebovits, N. (2006). Beyond Sarbanes Oxley, Three best practices to adopt in your organization, Journal of Accountancy, Retrieved from www. journalofaccoutancy.com/Issues/2006/Aug/BeyondSarbanesOxley.htm, September 15, 2013.

Gilbert, J. (2011). Moral Duties in business and their Societal Impacts: The Case of the Subprime Lending Mess. Business & Society Review (00453609), 116(1), 87-107.         doi. 10.1111/1467-8594-2011-00378.x

Mingers, J., & Walsham, G. (2010). Toward ethical information systems: the contribution of discourse ethics. 34(4), 833-854.MIS Quarterly, 34(4) 833-854.

Thiel, C., Bagdasarov, Z., Harkrider, L., Johnson, J., and Mumford, M., (2012). Leader Ethical Decision-Making in Organizations: Strategies for Sensemaking. Journal of Business Ethics, 107(1), 49-64. doi:10.1007/s10551-012-1299-1

Subprime Loans: The Under-the-Radar Loans that Felled a Market

The Under-the-Radar Loans that Felled a Market

In the awakening of the housing growth market subprime loans sky-rocketed.  Prior to the onset of subprime loans; borrowers whose credit scores and those that were considered too risky in the eyes of lenders did not meet the criteria to warrant a loan from many lenders. One of the most notable areas of subprime lending was in the area of home buying. Gilbert noted, The U.S. Department of Housing and Urban Development, in defining subprime lending, says that “typically, subprime loans are for persons with blemished or limited credit histories. The loans carry a higher rate of interest than prime loans to compensate for increased credit risk ”(Gilbert, 2011, p.89).  Borrowers were able to qualify to buy homes without stringent criteria that were previously established.    

“Sub-prime loans are generally made to borrowers with blemished credit scores or very low equity loans. Subprime borrowers pay large premiums to account for their higher probability to default and pre-pay than more credit worthy borrowers in the prime loan sector” (Sarmiento, 2009, p. 181).  In the success of subprime lending the housing market soared, it made buying a home affordable and created a benefit to lenders, as it allowed the lender to share the wealth. “Investors in search of high yielding assets and banks met the demand for the higher credit risk in sub-prime securities originated by banks and brokers, which earned fees by pooling and slicing the risks in these loans” (Sarmiento, 2009, p. 181).  The loan are settled with the buyer, then the lender sells it to another investor and that investor then sells it to another.  This writer interprets this as a lender to buyer to seller rotational model, see Figure 1.

                                                                                                                                                                                                                                                                    

Gilbert, J., (2011). Moral Duties in Business and Their Societal Impacts. The Case of the Subprime Lending Mess. Business & Society Review (0045609), 116(1), 87-107.                           doi 10.1111/j.1467-8594.2011.00378.x Sarmiento, C. (2009). Regime changes in sub-prime margins under the US housing bubble. Applied Financial Economics, 19(3), 175-182. doi:10.1080/09603100701857898