Global Crises The Story
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Global Crises The Story

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This is a very good basic understanding of what were the causes of global financial crises and what needs to be done

This is a very good basic understanding of what were the causes of global financial crises and what needs to be done

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Global Crises The Story Global Crises The Story Presentation Transcript

  • Global Crises-The Story Muhammad Hasnain Yousaf
  • The Beginning (trailer)
    • Welcome to 2009 where the world is facing what could be the worst crises of economic history every faced just as cruel or ever worse than the Great Depression of 1933
    • Paralyzed financial system, weakening industry, increasing unemployment and it is still going on
  • First Scene- East Asian Crises (late90s)
    • The East Asian crises that emerged in late 90s proved to be a fruit of thought for these countries
    • With increasing exchange pressure on the FX reserves of these countries, the end result was the development of thought that greater reserves are needed for preventing any serious economic crises
    View slide
  • Story Continues……..
    • What happened next? These East Asian countries engineered Trade Surpluses (Exports>Imports) to accumulate FX reserves.
    • The majority of these reserves was denominated in US Dollars and thus invested in US economy creating excess liquidity in US system
    View slide
  • Story Continues…….. (The Dollar Blessing)
    • US economy is at the heart of the global economic system
    • US Dollar is the most widely accepted reserve currency of the world
    • Basically a spending and credit oriented society, US economy runs one of the biggest Current Account Deficits of the world
  • Story Continues…….. (The Dollar Blessing)
    • Every country need to hold FX reserves to finance her C/A deficit but not the US
    • US holds a minimal reserves level because it has to only print Dollars to finance the deficit.
    • Printing Dollars and we are safe, its not that easy as well as we think I would be for US
  • Story Continues…….. (The Dollar Blessing)
    • Printing money however, increases the supply of money in the economy and resultantly the price of money i.e. interest rate goes down (just like when seasonal fruits are abundant in their season, the price is low)
    • With more and more money in circulation the control on money also weakens (Fed controls the money)
  • Story Continues…….. (before the storm)
    • Is lower interest rate beneficial for the economy?
    • The answer is that it depends that what is the structure that the economy is following.
    • In the free market economy like US where the firms are competing for more and more, low interest rate is though beneficial for other segments of the economy i.e. consumers, producers even Govt
  • Story Continues…….. (before the storm)
    • But the financial sector should also be kept in mind with low interest rates, the intermediation process (the way by which banks make profit) is disturbed with low earning (due to low interest rates) the banks are forced to lend to risky customers to get higher return
  • Story Continues…….. (before the storm)
    • This is what happened. With low returns on good clients (due to their financial strength), the banks started to look for more profitable avenues like sub prime lending based on real estate mortgages to take advantages of booming real estate market
  • Story Continues…….. (the wrong doing)
    • What was wrong with this? Why didn’t the banks had every right to maximize profit like every other institution?
    • The answer is that banks are very sensitive economic and Social institutions. They not only use their but also public’s money in making money as well
  • Story Continues…….. (the wrong doing)
    • The banks in fact, contain a much larger chunk of peoples deposits making up their lending activities
    • A failed bank doesn’t only entail an economic but also serious social repercussions
    • What was wrong with the loans that banks created
  • Story Continues…….. (the wrong doing)
  • Story Continues…….. (the wrong doing)
    • The bank usually follow the five basic principals also known 5Cs of lending
      • Character
      • Capital
      • Capacity
      • Collateral
      • Covenants
  • Story Continues…….. (the wrong doing)
    • Now the loan process was that the borrower was never going to pay the loan, instead, the banker was to recover the loan and interest by liquidating the property which would be priced high then the loan amount due to booming prices.
    • So the default was built in the process a violation of 4 lending principals (leaving Collateral)
  • Story Continues…….. (Toxic Speading)
    • The banks however, has contingency plans. They sold these loans originated mostly by the real estate brokers to the factoring agencies, Investment Banks and real estate investment trusts.
    • These institutions issued securities based on the factored loans and these securities were subscribed by both individual, Institutional and social investors including the banks
  • Story Continues…….. (Rise of Storm)
    • But when the loans started to default, the properties mortgaged started to foreclose increasing the sellers in the market. With not enough buyers, the market started to fall and the property prices started to come down dramatically increasing the loss
    • With losses increasing and whipping out equity, the banks started to close down.
  • Story Continues…….. (Rise of Storm)
    • With banks failed, the surviving banks stopped lending to private sector and consumers and only invested in the Govt securities
    • The frozen private credit halted the growth of private sector which led to job cuts increasing unemployment
  • Story Continues…….. (Rise of Storm)
    • With increasing unemployment people started saving their incomes and suspended their spending creating another cycle of low demand lower profits and another wave of job cuts
    • The situation got worse and Govt had to step in to save the system by offering massive bail out packages
  • Lessons to be learned………
    • What did we learnt from this?
    • Proper regulation of financial sector
    • Spending within limits
    • Effective Social Protection
  • The End Hope you would like this story, many other things are left intentionally as the story aims at a basic understanding. This story works best in night when you need a sound sleep
  • Feed Back Any suggestions, corrections and views will be highly appreciated Muhammad Hasnain Yousaf Email: hasnain.yousaf@sbp.org.pk