Some write that there should be no bail-out of borrowers who are defaulting on their loans. These commentators write that the borrowers willingly entered into a contract and should accept the consequences of their inability to pay. These commentators also say the lenders shouldn't get any help as the lenders also willingly entered into a contract.
Like "there ain't no such thing as a free lunch" there ain't no such thing as a free market. Those who preach about a free market also forget about the detail of externalities. Few transactions are between a willing buyer and a willing seller with no effect on anybody else. If a dealer sells a car to a buyer who knows the brakes are bad, it may be a third party who suffers damage to life, limb, or property when that car doesn't stop. If a factory belching smoke sells its products far away, it is the people who live nearby who suffer the effects of pollution.
Similarly, a large number of defaults can affect more people than the borrowers and the lenders. More conservative lenders are going to take even more care choosing their borrowers. This in turn will drive up interest rates for more solid borrowers. There are already stories about the "credit crunch".
Defaults of home mortgages are going to put more houses on the market. A larger supply of houses is going to depress prices for those who would like to willingly sell their houses. The depressed prices may be good for potential buyers, but the increased mortgage rates and decreased availability of money to lend could offset the low price benefit. This could lead to fewer buyers which would lead to even lower prices.
Low demand for houses also affects realtors and builders. The lower earnings for these two groups could also lead to less spending by them in other areas, like autos and appliances and many other goods and services.
Fewer purchases by more people leads to a slower economy. Couple this with rising fuel costs, is it any wonder the stock market is in turmoil?
