Y376 International Political Economy January 23, 2012
Financial Crises <ul><li>Often begin with a structural deficit problem accentuated by a severe downturn in the domestic ec...
The Peso Crisis of 1994 <ul><li>Mexico admitted to OECD in May 1994 </li></ul><ul><li>Huge balance of payments deficit fin...
The Asia Crisis of 1997-98 <ul><li>Starts with collapse of Thai currency, the baht </li></ul><ul><li>Crisis spreads to Ind...
Depreciation of Asia Currencies
Russian Crisis of 1998 <ul><li>Delayed impact of Asia Crisis </li></ul><ul><li>Oil prices on the decline, government unabl...
Argentine Crisis, 1999-2002 <ul><li>New currency created in 1983, the austral </li></ul><ul><li>Inflation problems led to ...
Global Financial Crisis 2007-8 <ul><li>Led by bursting of the  housing bubble  in the US in 2007 </li></ul><ul><li>Made wo...
Global Financial Crisis 2007-8 <ul><li>Led by bursting of  housing bubble  in the US </li></ul><ul><li>Made worse by near ...
US Home Price Index 1963-2010 1963-2010 The Bubble Bursts
Contributing Factors <ul><li>Subprime mortgages </li></ul><ul><li>Unethical mortgage brokers </li></ul><ul><li>Low interes...
Subprime Mortgages <ul><li>Definition: a type of mortgage granted to individuals with low credit ratings ( FICO  less than...
Expansion of Subprime Market
Unethical Mortgage Brokers <ul><li>Exaggerated expected earnings of borrowers </li></ul><ul><li>Sold more expensive loans ...
The Role of Low Interest Rates <ul><li>Investors were looking for ways to obtain higher rates of return for low-risk inves...
Credit Rating Agencies <ul><li>These firms (e.g.  Fitch Group ,  Moody’s ,  Standard and Poor’s ) establish credit ratings...
Insufficient Regulation <ul><li>Securities and Exchange Commission (SEC) was supposed to regulate the mortgage market and ...
Short-Term US Government Responses <ul><li>“ Rescue” of  Bear Stearns </li></ul><ul><li>Decision not to rescue  Lehman Bro...
Bear Stearns stock price
Medium and Long-Term Measures <ul><li>Capital Adequacy Requirements  and Deleveraging </li></ul><ul><li>Regulation of prev...
The Group of Eight (G8) <ul><li>Began in 1975 as a way for the largest industrialized economies to deal with the problems ...
Who are the G8? <ul><li>US </li></ul><ul><li>UK </li></ul><ul><li>Germany </li></ul><ul><li>France </li></ul><ul><li>Italy...
G7/G8 Meetings, 1975-2011 <ul><li>1975 Rambouillet </li></ul><ul><li>1976 Puerto Rico </li></ul><ul><li>1977 London </li><...
Heilegendam Summit in 2007 L to R: Tony Blair, Romano Prodi, Vladimir Putin, Nicolas Sarkozy, Angela Merkel, George Bush, ...
2009 L’Aquila G8 “Family Photo” L to R: Taro Aso, Stephen Harper, Barack Obama, Nicolas Sarkozy,  Silvio Berlusconi,  Dmit...
Who are the G20? <ul><li>G8 countries </li></ul><ul><li>Argentina </li></ul><ul><li>Australia </li></ul><ul><li>Brazil </l...
What are the G8 and the G20 Doing about the Current Crisis? <ul><li>Stimulus packages </li></ul><ul><li>Improved regulatio...
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  1. 1. Y376 International Political Economy January 23, 2012
  2. 2. Financial Crises <ul><li>Often begin with a structural deficit problem accentuated by a severe downturn in the domestic economy </li></ul><ul><li>Country may default on its international obligations (loans, other foreign investments) </li></ul><ul><li>All this occurs in a general atmosphere of panic, currency value may fall rapidly </li></ul>
  3. 3. The Peso Crisis of 1994 <ul><li>Mexico admitted to OECD in May 1994 </li></ul><ul><li>Huge balance of payments deficit financed by Tesobonos (bonds denominated in dollars) </li></ul><ul><li>Zedillo replaces Salinas as President </li></ul><ul><li>Sudden devaluation of the peso in December 1994 </li></ul><ul><li>GDP contracted by 7 percent in 1995 </li></ul>
  4. 4. The Asia Crisis of 1997-98 <ul><li>Starts with collapse of Thai currency, the baht </li></ul><ul><li>Crisis spreads to Indonesia, South Korea, and other East Asian countries </li></ul><ul><li>IMF criticized for bad advice/pressure during the crisis </li></ul>
  5. 5. Depreciation of Asia Currencies
  6. 6. Russian Crisis of 1998 <ul><li>Delayed impact of Asia Crisis </li></ul><ul><li>Oil prices on the decline, government unable to collect taxes </li></ul><ul><li>Use of dollar-denominated GKO bonds to finance budget deficits </li></ul><ul><li>Ruble suddenly devalued in August 1998 </li></ul><ul><li>Economy recovered quickly several years later when oil prices increased </li></ul>
  7. 7. Argentine Crisis, 1999-2002 <ul><li>New currency created in 1983, the austral </li></ul><ul><li>Inflation problems led to the restoration of the peso in 1990, and the peso was pegged to the dollar </li></ul><ul><li>Balance of payments problems led to debt increases that resulted in speculation about the value of the peso </li></ul><ul><li>When Brazil devalued the real, Argentine trade suffered further, and GDP declined by 4% in 1999 </li></ul><ul><li>3 years of recession followed, combined with capital flight to produce a major economic collapse </li></ul><ul><li>In 2002, the peso was allowed to float (and devalue) </li></ul>
  8. 8. Global Financial Crisis 2007-8 <ul><li>Led by bursting of the housing bubble in the US in 2007 </li></ul><ul><li>Made worse by near collapse of US financial markets connected with mortgage-backed securities , synthetic collateralized debt obligations (CDOs), and credit default swaps </li></ul><ul><li>Response to the crisis revived the debate over regulation of financial markets and Keynesian approaches to preventing deep recessions </li></ul>
  9. 9. Global Financial Crisis 2007-8 <ul><li>Led by bursting of housing bubble in the US </li></ul><ul><li>Made worse by near collapse of US financial markets connected with mortgage-backed securities and credit default swaps </li></ul><ul><li>Response revives debate over Keynesian approach to preventing deep recessions </li></ul>
  10. 10. US Home Price Index 1963-2010 1963-2010 The Bubble Bursts
  11. 11. Contributing Factors <ul><li>Subprime mortgages </li></ul><ul><li>Unethical mortgage brokers </li></ul><ul><li>Low interest rates set by the Federal Reserve </li></ul><ul><li>Credit Rating Agencies (conflicts of interest) </li></ul><ul><li>Insufficient regulation of financial markets </li></ul><ul><ul><li>Mortgages and related markets </li></ul></ul><ul><ul><li>Derivatives, including credit default swaps </li></ul></ul>
  12. 12. Subprime Mortgages <ul><li>Definition: a type of mortgage granted to individuals with low credit ratings ( FICO less than 600) </li></ul><ul><li>Subprime mortgages feature higher interest rates than conventional mortgages because of the higher risk of default </li></ul><ul><li>Subprime borrowers were offered adjustable rate mortgages (ARMs) </li></ul><ul><li>US policy from the 1990s on was to encourage the growth of this market to make home ownership available to a wider spectrum of the population </li></ul>
  13. 13. Expansion of Subprime Market
  14. 14. Unethical Mortgage Brokers <ul><li>Exaggerated expected earnings of borrowers </li></ul><ul><li>Sold more expensive loans when less expensive loans were available </li></ul><ul><li>Conspired with real estate brokers to raise the sale price of properties above market value </li></ul><ul><li>As a result, subprime delinquency rates began to increase rapidly after 2007 </li></ul>Angelo Mozilo
  15. 15. The Role of Low Interest Rates <ul><li>Investors were looking for ways to obtain higher rates of return for low-risk investments </li></ul><ul><li>Treasury Bonds became less attractive for this purpose </li></ul><ul><li>Mortgage Backed Securities (MBSs) and Collaterized Debt Obligations (CDOs) expanded rapidly to fill the void </li></ul>
  16. 16. Credit Rating Agencies <ul><li>These firms (e.g. Fitch Group , Moody’s , Standard and Poor’s ) establish credit ratings for issuers of certain types of debt obligations. </li></ul><ul><li>The highest rating is AAA which denotes low risk and high liquidity. </li></ul><ul><li>They sometimes compete for business by offering better ratings (a clear conflict of interest). </li></ul>
  17. 17. Insufficient Regulation <ul><li>Securities and Exchange Commission (SEC) was supposed to regulate the mortgage market and apparently failed to do so </li></ul><ul><li>The Federal Reserve (especially when headed by Alan Greenspan) chose not to regulate derivatives markets </li></ul><ul><li>Government financial regulators relied too much on the private credit rating agencies and business journalist to expose malfeasance and overly risky investments </li></ul>
  18. 18. Short-Term US Government Responses <ul><li>“ Rescue” of Bear Stearns </li></ul><ul><li>Decision not to rescue Lehman Brothers </li></ul><ul><li>Takeover of Fannie Mae and Freddie Mac </li></ul><ul><li>Troubled Asset Relief Program (TARP) </li></ul><ul><ul><li>Bailouts of AIG and GM </li></ul></ul><ul><ul><li>$245 billion invested in US banks </li></ul></ul><ul><li>Obama’s economic stimulus package </li></ul>
  19. 19. Bear Stearns stock price
  20. 20. Medium and Long-Term Measures <ul><li>Capital Adequacy Requirements and Deleveraging </li></ul><ul><li>Regulation of previously unregulated markets ( derivatives , but especially credit default swaps ) </li></ul><ul><li>Improved protection for consumers </li></ul><ul><li>Mortgage renegotiation incentives </li></ul>
  21. 21. The Group of Eight (G8) <ul><li>Began in 1975 as a way for the largest industrialized economies to deal with the problems of interdependence </li></ul><ul><li>Heads of state of the G7 countries met annually until 1997 when Russia joined </li></ul><ul><li>The European Union is represented separately in all G7/G8 meetings </li></ul>
  22. 22. Who are the G8? <ul><li>US </li></ul><ul><li>UK </li></ul><ul><li>Germany </li></ul><ul><li>France </li></ul><ul><li>Italy </li></ul><ul><li>Japan </li></ul><ul><li>Canada </li></ul><ul><li>Russia </li></ul>
  23. 23. G7/G8 Meetings, 1975-2011 <ul><li>1975 Rambouillet </li></ul><ul><li>1976 Puerto Rico </li></ul><ul><li>1977 London </li></ul><ul><li>1978 Bonn </li></ul><ul><li>1979 Tokyo </li></ul><ul><li>1980 Venice </li></ul><ul><li>1981 Ottawa </li></ul><ul><li>1982 Versailles </li></ul><ul><li>1983 Williamsburg </li></ul><ul><li>1984 London </li></ul><ul><li>1985 Bonn </li></ul><ul><li>1986 Tokyo </li></ul><ul><li>1987 Venice </li></ul><ul><li>1988 Toronto </li></ul><ul><li>1989 Paris </li></ul><ul><li>1990 Houston </li></ul><ul><li>1991 London </li></ul><ul><li>1992 Munich </li></ul><ul><li>1993 Tokyo </li></ul><ul><li>1994 Naples </li></ul><ul><li>1995 Halifax </li></ul><ul><li>1996 Moscow </li></ul><ul><li>1997 Denver </li></ul><ul><li>1998 Birmingham </li></ul><ul><li>1999 Cologne </li></ul><ul><li>2000 Okinawa </li></ul><ul><li>2001 Genoa </li></ul><ul><li>2002 Kananaskis </li></ul><ul><li>2003 Evian </li></ul><ul><li>2004 Sea Island </li></ul><ul><li>2005 Gleneagles </li></ul><ul><li>2006 St. Petersburg </li></ul><ul><li>2007 Heilegendam </li></ul><ul><li>2008 Hokkaido </li></ul><ul><li>2009 L’Aquila </li></ul><ul><li>2010 Muskoka </li></ul><ul><li>2011 Deauville </li></ul>
  24. 24. Heilegendam Summit in 2007 L to R: Tony Blair, Romano Prodi, Vladimir Putin, Nicolas Sarkozy, Angela Merkel, George Bush, Stephen Harper, Shinzo Abe and Manuel Jose Barroso
  25. 25. 2009 L’Aquila G8 “Family Photo” L to R: Taro Aso, Stephen Harper, Barack Obama, Nicolas Sarkozy, Silvio Berlusconi, Dmitry Medvedev, Angela Merkel, Gordon Brown, Fredrik Reinfeldt, Jose Manuel Barroso
  26. 26. Who are the G20? <ul><li>G8 countries </li></ul><ul><li>Argentina </li></ul><ul><li>Australia </li></ul><ul><li>Brazil </li></ul><ul><li>India </li></ul><ul><li>Indonesia </li></ul><ul><li>Mexico </li></ul><ul><li>Saudi Arabia </li></ul><ul><li>South Africa </li></ul><ul><li>South Korea </li></ul><ul><li>Turkey </li></ul><ul><li>China </li></ul><ul><li>European Union </li></ul>Pittsburgh Summit 2009
  27. 27. What are the G8 and the G20 Doing about the Current Crisis? <ul><li>Stimulus packages </li></ul><ul><li>Improved regulation of financial markets </li></ul><ul><li>Capital adequacy reforms (credit default swaps, especially) </li></ul><ul><li>Improve credit rating agencies </li></ul><ul><li>Continued meetings </li></ul>
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