What is the Financial What is the Financial Crisis?Crisis?

The financial crisis of 2007–present is a The financial crisis of 2007–present is a financial crisis triggered by a liquidity financial crisis triggered by a liquidity shortfall in the United States banking shortfall in the United States banking system. It has resulted in the collapse of system. It has resulted in the collapse of large financial institutions, the "bail out" large financial institutions, the "bail out" of banks by national governments and of banks by national governments and downturns in stock markets around the downturns in stock markets around the world. ...world. ...

Causes…Causes…

Collapse of the housing bubble: 2006 caused Collapse of the housing bubble: 2006 caused those securities connected to real state to those securities connected to real state to collapse damaging the banking system world collapse damaging the banking system world wide.wide.

Questions about bank solvency: impacted the Questions about bank solvency: impacted the stock marketstock market

Economies slowed world-wide causing credit Economies slowed world-wide causing credit tightening and decrease in international tradetightening and decrease in international trade

Causes Con’tCauses Con’t

An increase in loan packaging, marketing An increase in loan packaging, marketing and incentives such as easy initial terms, and incentives such as easy initial terms, and a long-term trend of rising housing and a long-term trend of rising housing prices had encouraged borrowers to take prices had encouraged borrowers to take on difficult mortgages in the belief they on difficult mortgages in the belief they would be able to quickly refinance at would be able to quickly refinance at more favorable terms. more favorable terms.

SO…….SO…….

Once interest rates began to rise and Once interest rates began to rise and housing prices started to drop moderately housing prices started to drop moderately in 2006–2007 in many parts of the U.S., in 2006–2007 in many parts of the U.S., refinancing became more difficult. refinancing became more difficult. Defaults and foreclosure activity Defaults and foreclosure activity increased dramatically as easy initial increased dramatically as easy initial terms expired, home prices failed to go terms expired, home prices failed to go up as anticipated, and ARM interest rates up as anticipated, and ARM interest rates reset higher.reset higher.

Soooooo…Soooooo…

The combination of easy credit and The combination of easy credit and money inflow contributed to the United money inflow contributed to the United States housing bubble. Loans of various States housing bubble. Loans of various types (e.g., mortgage, credit card, and types (e.g., mortgage, credit card, and auto) were easy to obtain and consumers auto) were easy to obtain and consumers assumed an unprecedented debt load. assumed an unprecedented debt load.

Then…Then…

Such financial innovation enabled institutions Such financial innovation enabled institutions and investors around the world to invest in the and investors around the world to invest in the U.S. housing market. As housing prices U.S. housing market. As housing prices declined, major global financial institutions that declined, major global financial institutions that had borrowed and invested heavily in subprime had borrowed and invested heavily in subprime MBS reported significant losses. Falling prices MBS reported significant losses. Falling prices also resulted in homes worth less than the also resulted in homes worth less than the mortgage loan, providing a financial incentive mortgage loan, providing a financial incentive to enter foreclosure. to enter foreclosure.

In AdditionIn Addition

While the housing and credit bubbles built, a While the housing and credit bubbles built, a series of factors caused the financial system to series of factors caused the financial system to both expand and become increasingly fragile, a both expand and become increasingly fragile, a process called financialization. U. S. process called financialization. U. S. Government policy from the 1970s onward has Government policy from the 1970s onward has emphasized deregulation to encourage emphasized deregulation to encourage business, which resulted in less oversight of business, which resulted in less oversight of activities and less disclosure of information activities and less disclosure of information about new activities undertaken by banks and about new activities undertaken by banks and other evolving financial institutions. other evolving financial institutions.

Thus…Thus…

Policymakers did not immediately recognize the Policymakers did not immediately recognize the increasingly important role played by financial increasingly important role played by financial institutions such as investment banks and institutions such as investment banks and hedge fundshedge funds, also known as the , also known as the shadow banking systemshadow banking system. Some experts believe . Some experts believe these institutions had become as important as these institutions had become as important as commercial (depository) banks in providing commercial (depository) banks in providing credit to the U.S. economy, but they were not credit to the U.S. economy, but they were not subject to the same regulations. subject to the same regulations.

Finally…Finally…

These losses impacted the ability of These losses impacted the ability of financial institutions to lend, slowing financial institutions to lend, slowing economic activity economic activity

Sum it Up!Sum it Up!

Unchecked growth of housing bubbleUnchecked growth of housing bubble Easy credit conditionsEasy credit conditions Weak and fraudulent underwriting Weak and fraudulent underwriting

practicespractices Sub-prime lending practicesSub-prime lending practices Predatory lendersPredatory lenders

The ResultThe Result

The housing market collapseThe housing market collapse Collapse of the Shadow Banking Collapse of the Shadow Banking system:The system:The shadow banking systemshadow banking system or the or the shadow financial systemshadow financial system

consists of non-depository banks and other financial entities (e.g., investment banks, hedge funds, and money market funds) that consists of non-depository banks and other financial entities (e.g., investment banks, hedge funds, and money market funds) that grew in size dramatically after the year 2000 and play an increasingly critical role in lending businesses the money necessary to grew in size dramatically after the year 2000 and play an increasingly critical role in lending businesses the money necessary to operate. operate.

Commodities boom Rapid increases in a number of commodity prices Commodities boom Rapid increases in a number of commodity prices followed the collapse in the housing bubble. The price of oil nearly tripled followed the collapse in the housing bubble. The price of oil nearly tripled from $50 to $147 from early 2007 to 2008, before plunging as the financial from $50 to $147 from early 2007 to 2008, before plunging as the financial crisis began to take hold in late 2008. Experts debate the causes, with crisis began to take hold in late 2008. Experts debate the causes, with some attributing it to speculative flow of money from housing and other some attributing it to speculative flow of money from housing and other investments into commodities, some to monetary policy, and some to the investments into commodities, some to monetary policy, and some to the increasing feeling of raw materials scarcity in a fast growing world, leading increasing feeling of raw materials scarcity in a fast growing world, leading to long positions taken on those markets, such as Chinese increasing to long positions taken on those markets, such as Chinese increasing presence in Africa. An increase in oil prices tends to divert a larger share presence in Africa. An increase in oil prices tends to divert a larger share of consumer spending into gasoline, which creates downward pressure on of consumer spending into gasoline, which creates downward pressure on economic growth in oil importing countries, as wealth flows to oil-economic growth in oil importing countries, as wealth flows to oil-producing states. producing states.

Global RecessionGlobal Recession

Investment bank Investment bank UBSUBS stated on October 6 that stated on October 6 that 2008 would see a clear global recession, with 2008 would see a clear global recession, with recovery unlikely for at least two years.recovery unlikely for at least two years.[157][157] Three days later UBS economists announced Three days later UBS economists announced that the "beginning of the end" of the crisis had that the "beginning of the end" of the crisis had begun, with the world starting to make the begun, with the world starting to make the necessary actions to fix the crisis: necessary actions to fix the crisis: capitalcapital injection by governments; injection made injection by governments; injection made systemically; interest rate cuts to help systemically; interest rate cuts to help borrowers. borrowers.

The U. K. ‘s ThoughtsThe U. K. ‘s Thoughts

The United Kingdom had started The United Kingdom had started systemic injection, and the world's central systemic injection, and the world's central banks were now cutting interest rates. banks were now cutting interest rates. UBS emphasized the United States UBS emphasized the United States needed to implement systemic injection. needed to implement systemic injection. UBS further emphasized that this fixes UBS further emphasized that this fixes only the financial crisis, but that in only the financial crisis, but that in economic terms "the worst is still to economic terms "the worst is still to come".come".[[

The Result in the USThe Result in the US

The The Brookings InstitutionBrookings Institution reported in June reported in June 2009 that U.S. consumption accounted for 2009 that U.S. consumption accounted for more than a third of the growth in global more than a third of the growth in global consumption between 2000 and 2007. "The US consumption between 2000 and 2007. "The US economy has been spending too much and economy has been spending too much and borrowing too much for years and the rest of borrowing too much for years and the rest of the world depended on the U.S. consumer as a the world depended on the U.S. consumer as a source of global demand." With a recession in source of global demand." With a recession in the U.S. and the increased savings rate of U.S. the U.S. and the increased savings rate of U.S. consumers, declines in growth elsewhere have consumers, declines in growth elsewhere have been dramatic. been dramatic.

Developing CountiesDeveloping Counties

Some developing countries that had seen strong Some developing countries that had seen strong economic growth saw significant slowdowns. For economic growth saw significant slowdowns. For example, growth forecasts in Cambodia show a fall example, growth forecasts in Cambodia show a fall from more than 10% in 2007 to close to zero in 2009, from more than 10% in 2007 to close to zero in 2009, and Kenya may achieve only 3-4% growth in 2009, and Kenya may achieve only 3-4% growth in 2009, down from 7% in 2007. According to the research by down from 7% in 2007. According to the research by the Overseas Development Institute, reductions in the Overseas Development Institute, reductions in growth can be attributed to falls in trade, commodity growth can be attributed to falls in trade, commodity prices, investment and remittances sent from migrant prices, investment and remittances sent from migrant workers (which reached a record $251 billion in 2007, workers (which reached a record $251 billion in 2007, but have fallen in many countries since). but have fallen in many countries since).

The Arab CountriesThe Arab Countries

By March 2009, the Arab world had lost By March 2009, the Arab world had lost $3 trillion due to the crisis. In April 2009, $3 trillion due to the crisis. In April 2009, unemployment in the Arab world is said to be a unemployment in the Arab world is said to be a 'time bomb'. In May 2009, the United Nations 'time bomb'. In May 2009, the United Nations reported a drop in foreign investment in Middle-reported a drop in foreign investment in Middle-Eastern economies due to a slower rise in Eastern economies due to a slower rise in demand for oil. In June 2009, the World Bank demand for oil. In June 2009, the World Bank predicted a tough year for Arab states. In predicted a tough year for Arab states. In September 2009, Arab banks reported losses September 2009, Arab banks reported losses of nearly $4 billion since the onset of the global of nearly $4 billion since the onset of the global financial crisis. financial crisis.

The EurozoneThe Eurozone

One of the long-term worldwide consequences of the One of the long-term worldwide consequences of the economic breakdown is the 2010 European sovereign economic breakdown is the 2010 European sovereign debt crisis. This crisis primarily impacted five countries: debt crisis. This crisis primarily impacted five countries: Greece, Ireland, Portugal, Italy, and Spain. The Greece, Ireland, Portugal, Italy, and Spain. The governments of these nations habitually run large governments of these nations habitually run large government budget deficits. Other government budget deficits. Other EurozoneEurozone countries countries include: France, Belgium, The Netherlands, include: France, Belgium, The Netherlands, Luxembourg, Germany, Finland, Austria, and Italy. Luxembourg, Germany, Finland, Austria, and Italy. Greece, which at the time of the crisis also suffered Greece, which at the time of the crisis also suffered from bad governing with widespread corruption and tax from bad governing with widespread corruption and tax evasion, was hit the hardest and was thus targeted by evasion, was hit the hardest and was thus targeted by credit rating agencies as the weak link of the Eurozone. credit rating agencies as the weak link of the Eurozone.

The Problem with GreeceThe Problem with Greece

Fear that Greece's debt problems would cause lenders Fear that Greece's debt problems would cause lenders to stop lending to it, with the result that Greece would to stop lending to it, with the result that Greece would default on its sovereign debt, sparked speculation that default on its sovereign debt, sparked speculation that such a default would cause lenders to stop loaning such a default would cause lenders to stop loaning money to the other PIGS (Portugal, Ireland/Italy, money to the other PIGS (Portugal, Ireland/Italy, Greece and Spain) as well, with the result that they Greece and Spain) as well, with the result that they would also eventually default on their sovereign debt. A would also eventually default on their sovereign debt. A sovereign defaultsovereign default by Spain, Portugal, Italy and Greece by Spain, Portugal, Italy and Greece would result in bank losses so large that almost every would result in bank losses so large that almost every bank in Europe would become insolvent due to the now bank in Europe would become insolvent due to the now uncollectible outstanding loans to those four countries.uncollectible outstanding loans to those four countries.

What to do???What to do???

On Friday, May 7, 2010 a long-desired financial aid On Friday, May 7, 2010 a long-desired financial aid package for Greece was constructed; however, it was package for Greece was constructed; however, it was obvious that other states, because of their extremely obvious that other states, because of their extremely large debts, would have - or already had - financial large debts, would have - or already had - financial difficulties. difficulties.

Therefore, the following Sunday a large group of Therefore, the following Sunday a large group of ministers of ministers of EurozoneEurozone gathered in Brussels, decided on gathered in Brussels, decided on a mutual financial aid package of €750 billion; and the a mutual financial aid package of €750 billion; and the European Central Bank announced that in the future it European Central Bank announced that in the future it would support by explicit monetary help, if necessary, would support by explicit monetary help, if necessary, government bonds of the Eurozone countries (which government bonds of the Eurozone countries (which was not allowed before, because of fears of inflation was not allowed before, because of fears of inflation

The US ResponseThe US Response

The U.S. Federal Reserve and central banks The U.S. Federal Reserve and central banks around the world have taken steps to expand around the world have taken steps to expand money supplies to avoid the risk of a money supplies to avoid the risk of a deflationary spiral, in which lower wages and deflationary spiral, in which lower wages and higher unemployment lead to a self-reinforcing higher unemployment lead to a self-reinforcing decline in global consumption. In addition, decline in global consumption. In addition, governments have enacted large fiscal governments have enacted large fiscal stimulus packages, by borrowing and spending stimulus packages, by borrowing and spending to offset the reduction in private sector demand to offset the reduction in private sector demand caused by the crisis. The U.S. executed two caused by the crisis. The U.S. executed two stimulus packages, totaling nearly $1 trillion stimulus packages, totaling nearly $1 trillion during 2008 and 2009.during 2008 and 2009.

Brink of CollapseBrink of Collapse

This credit freeze brought the global financial system to This credit freeze brought the global financial system to the brink of collapse. The response of the U.S. Federal the brink of collapse. The response of the U.S. Federal Reserve, the European Central Bank, and other central Reserve, the European Central Bank, and other central banks was immediate and dramatic. During the last banks was immediate and dramatic. During the last quarter of 2008, these central banks purchased quarter of 2008, these central banks purchased US$2.5 trillion of government debt and troubled private US$2.5 trillion of government debt and troubled private assets from banks. This was the largest liquidity assets from banks. This was the largest liquidity injection into the credit market, and the largest injection into the credit market, and the largest monetary policy action, in world history. The monetary policy action, in world history. The governments of European nations and the USA also governments of European nations and the USA also raised the capital of their national banking systems by raised the capital of their national banking systems by $1.5 trillion, by purchasing newly issued preferred $1.5 trillion, by purchasing newly issued preferred stock in their major banks.stock in their major banks.

The beginning of the The beginning of the bailout.bailout.

Governments have also bailed out a variety of firms Governments have also bailed out a variety of firms incurring large financial obligations. To date, various incurring large financial obligations. To date, various U.S. government agencies have committed or spent U.S. government agencies have committed or spent trillions of dollars in loans, asset purchases, trillions of dollars in loans, asset purchases, guarantees, and direct spending. For a summary of guarantees, and direct spending. For a summary of U.S. government financial commitments and U.S. government financial commitments and investments related to the crisis, see CNN - Bailout investments related to the crisis, see CNN - Bailout Scorecard. Significant controversy has accompanied Scorecard. Significant controversy has accompanied the bailout, leading to the development of a variety of the bailout, leading to the development of a variety of "decision making frameworks", to help balance "decision making frameworks", to help balance competing policy interests during times of financial competing policy interests during times of financial crisis. crisis.

Other Suggested Other Suggested SolutionsSolutions

Establish resolution procedures for Establish resolution procedures for closing troubled financial institutions in closing troubled financial institutions in the shadow banking system, such as the shadow banking system, such as investment banks and hedge funds investment banks and hedge funds

Other suggestions:Other suggestions:

Restrict the leverage that financial Restrict the leverage that financial institutions can assume. Require institutions can assume. Require executive compensation to be more executive compensation to be more related to long-term performance. Re-related to long-term performance. Re-instate the separation of commercial instate the separation of commercial (depository) and investment banking (depository) and investment banking established by the Glass-Steagall Act in established by the Glass-Steagall Act in 1933 and repealed in 1999 by the 1933 and repealed in 1999 by the Gramm-Leach-Bliley Act.Gramm-Leach-Bliley Act.

Suggestions:Suggestions:

Break-up institutions that are "too big to fail" to Break-up institutions that are "too big to fail" to limit limit

Regulate institutions that "act like banks" Regulate institutions that "act like banks" similarly to banks similarly to banks

Banks should have a stronger capital cushion, Banks should have a stronger capital cushion, with graduated regulatory capital requirements with graduated regulatory capital requirements (i.e., capital ratios that increase with bank (i.e., capital ratios that increase with bank size), to "discourage them from becoming too size), to "discourage them from becoming too big and to offset their competitive advantage. big and to offset their competitive advantage.

Suggestions continuedSuggestions continued

Require minimum down payments for Require minimum down payments for home mortgages of at least 10% and home mortgages of at least 10% and income verification income verification

The Bail OUT!The Bail OUT!

It's time to tally up the federal It's time to tally up the federal government's bailout tab.government's bailout tab.

There was $29 billion for Bear Stearns, There was $29 billion for Bear Stearns, $345 billion for Citigroup. The Federal $345 billion for Citigroup. The Federal Reserve put up $600 billion to guarantee Reserve put up $600 billion to guarantee money market deposits and has money market deposits and has aggressively driven down interest rates to aggressively driven down interest rates to essentially zero.essentially zero.

Total????Total????

Total price tag so far: $7.2 trillion in Total price tag so far: $7.2 trillion in investment and loans. That puts a lot of investment and loans. That puts a lot of taxpayer money at risk. Now comes taxpayer money at risk. Now comes President-elect Barack Obama's President-elect Barack Obama's economic stimulus plan, some details of economic stimulus plan, some details of which were made public on Monday. The which were made public on Monday. The tally is getting awfully close to $8 trillion. tally is getting awfully close to $8 trillion.

What does $750 Trillion What does $750 Trillion look like?look like?

http://www.pagetutor.com/trillion/http://www.pagetutor.com/trillion/index.htmlindex.html