Free response question

IEO past paper: 2024 International Economics Olympiad, open questions

Open Question 1. Mortgage Securitization: Innovation or Instability? Securitization is the process of converting various types of assets into tradable securities. The most common method involves pooling large assets together and issuing a larger number of small securities linked to this pool. Financial innovation, and particularly securitization, are often cited as key drivers behind the U.S. housing boom of the early 2000s and the subsequent financial crisis. By the end of 2022, the U.S. securitization market exceeded $12.5 trillion, which is about half of the U.S. GDP. In this question, you'll explore the advantages and disadvantages of securitization and its impact on the housing and mortgage markets. Consider a simple example. A bank issues 100 mortgage loans, each worth $1 million. The bank then creates 10,000 securities, each promising investors a 1/10,000th share of the total payments from the pool.