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undeserved borrowers and investors. Subprime borrowers were desirous to use mortgage loans to finance home purchases. Meanwhile, large numbers of investors were also desirous to earn the relatively high interest rates promised on U.S. subprime mortgage securities. The second factor which contributed to the emergence and expansion of subprime mortgage lending is the catalyst of advances in technology and know-how. State-of-the-art tools are applied to securitize subprime mortgage. The third factor is the creation of a benign and even encouraging regulatory environment. In spite of the fact that U.S. mortgage lenders are faced with a complex system of state and federal regulations, few of these regulations impeded the evolvement of subprime loans. In addition, the existing system of commercial banks capital requirements provides banks with strong incentives to securitize many of the subprime mortgage loans they have originated.

There are some benefits gained from subprime mortgage lending. It is estimated that subprime mortgage lending has funded more than 5 million home purchases. This included first time acquisition of homes for about more than 1 million households. Young and minority households have been among the primary beneficiaries (Jafee, Dwight, 2008. P.3). these are the basic benefits gained from the long-standing U.S. policy goals for increased home ownership. Increased homeownership has consequently contributed to a rapid increase in new home construction.

2.1.2. LOAN MODIFICATIONS FOR DEFAULTING BORROWERS

Home mortgage lenders and servicers didn’t accept the idea of modifying loan terms as they were afraid that all borrowers (current and future) ask for such changes. Servicers also face contractual limitations. In spite of all this, lenders and servicers were subject to current government plans because the resulting loan modifications can be characterized as one-time emergency transactions.

Since defaulted borrowers were unable to pay their default debts, the costs imposed by subprime loan foreclosure were limited as they simply gave up their home in lieu of making the mortgage payments. The incomplete disclosures and securitization process caused investors to be involved into purchasing high-risk subprime mortgage securities. However, the purchasers of these securities include only the most sophisticated institutional investors worldwide. In summary, the securitization process per se was not a fundamental source of the subprime mortgage crisis.

Real estate prices are not constant. They are always changing. They always pass in boom and bust cycles. Therefore, the main reason in the moral hazard of subprime mortgage lending is the failure of lenders, investors, the credit rating agencies, and the monetary authority to recognize that mortgage lending booms almost inevitably end in crashes ( Jaffee, Dwight, 2008.p.4).

The credit rating agencies (CRAs) systematically underestimated the risk on subprime mortgage pools, attributing too much weight to FICO scores and too little weight to the likelihood of falling house prices and its powerful effect in creating mortgage defaults. For similar reasons, the CRAs also underestimated the risk on collateralized debt obligations (CDOs) that were backed by subprime securitization tranches. The major CRAs announced plans to modify their rating methodologies for subprime mortgages pool