THE CAUSE OF AMERICAN FINANCIAL CRISIS IN 2008 SHOCKS TO THEGLOBAL ECONOMY IMPACT ON USA ECONOMY IMPACT ON OTHER DEVELOPED COUNTRIES AND EMERGING ECONOMIES. IMPACT ON DEVELOPING ECONOMIES EFFECT ON GLOBAL OUTPUT GROWTH AMERICAN FINANCIAL CRISIS AND TRADE EFFECTS ON INTERNATIONAL TRADE
The global Financial Crisis of 2008 is the most severe financial crisis that the world has ever faced since the Great Depression of the 1930s.The ‘Financial Crisis of 2008’ , also called the US Meltdown, has its origin in the United States housing sector back in 2001-02, but gradually extended over a period of time and eventually brought the entire world under its grip.
The financial crisis is characterized by contracted liquidity in the global credit and housing market, triggered by the failure of mortgage companies, investment banks, and government institutions which had heavily invested in subprime loans. Though the crisis started in 2005- 06, but has become more visible during 2007-08, when many of the renowned Wall Street firms collapsedGlobally, companies and individuals have an ever increasing demand for capital for both personal and corporate investments.This makes access to finance difficult for the majority of the people.
The Cause con’tBanks and other financial institutions in the United States of America have gone through a long period of inappropriate lending.Relaxation of lending terms for mortgages was as a result of the boom in the housing sector.Millions of Americans with poor credit history who might not have bought their homes were granted sub-prime-mortgages.Traditionally, banks have been very conservative and stringent in their requirements.
Cause con’tTraditionally banks finance lending using deposits from customers.With increasing demand for mortgage loans, banks moved to a new model where mortgages were being issued on the bond market.This led to the growing of the mortgage bond market as mortgage brokers focused on less than ideal clients.This proved to be very profitable as banks earned a fee for each mortgage sold and urged brokers to sell more and more.
SHOCKS TO THEGLOBAL ECONOMYThe effect of the global financial crisis was worsened by rising global energy and commodity prices which pushed up inflation.Emerging and developing countries have particularly experienced strong rises in prices reflecting the high weight of food in their consumption baskets.
IMPACT ON USA ECONOMYThe banking industry has been badly hit as many of the mortgage bonds backed by sub-prime mortgages have fallen in value.As a result of the bad debts banks became reluctant to lend and this led to a credit crunch.A slow down in the building industry which contributes 15 percent to US output has had a ripple effect on other industries especially makers of durable goods.
IMPACT CON’TBailouts of financial entitiesBefore the financial crisis reached its peak in the US, the federal government bailed out investment bank Bear Stearns with nearly $30billion to avert a major financial default.It invested as much as $200 billion in preferred stock of the loss- plagued finance giants Fannie Mae and Freddie Mac and at least $5 billion in their mortgage securities;It further provided an emergency loan of $85billion to American International Group (AIG)Inc. in return for an ownership stake of as much as 80% in the stricken insurance giant.
IMPACT CON’T The Collapse of Lehman Brothers Ranked among the worlds top investment banks, the Lehman Brothers expanded aggressively into property related investments including the sub-prime mortgages. The sub-prime crisis with the decline in value of housing forced the company to take huge write downs on the value of those assets and led to the loss of about US$14 billion. This further led to Lehman’s prime customers pulling out their monies into much safer investment avenues e.g. investing in government bonds. This contributed to the company’s filing for bankruptcy protection and hence its fall. The collapse of the company put tens of thousands of jobs around the world at risk. The impact was also huge in other major economies considering the integration of the financial markets and the global nature of business today.
IMPACT ON OTHER DEVELOPED COUNTRIES AND EMERGING ECONOMIES Financial markets in the developed world have been adversely affected by the financial crisis. This has weakened growth in these economies. IMF projections show that by end of 2008 and early 2009 most developed economies was on the verge of a recession. The emerging economies have to a great extent remained resilient to the global financial turmoil(disorder). However the strong growth in these economies has been affected by the global down turn in economic activity and the growth has been moderate.
IMPACT ON DEVELOPING ECONOMIES The financial systems in developing economies however, have remained resilient to the financial woes in the US because business has still been done in the tradition way where individuals or companies need to have a good track record to be given credit or loans in these countries as a result the risk levels are very minimal. However, the impact would be felt in the real economy as a result of reduced demand for imports. This is likely to affect international market prices of such products. Banks in the developing economies will likely see their credit lines from foreign banks squeezed and the increasing financial flows that these economies have been experiencing are going to dry up.
EFFECT ON GLOBAL OUTPUT GROWTHThere was a global slowdown in economic growth.Reduced demand has led to price deflations in other countries.Uncertainty in International investment opportunities.Slowdown in International tradeReduction in External borrowing among countries
AMERICAN FINANCIAL CRISIS AND TRADETrade and Finance:There is a two way relationship between trade and financial services.A well developed financial system boosts trade through provision of financing and reducing exposure to risk.On the other hand, trade creates demand for various financial services and therefore promotes the development of financial systems.It is no wonder that the world leading financial markets are the leading trading places for goods and services.
AMERICAN FINANCIAL CRISIS AND TRADEThe financial sector supports international trade in four main ways: It provides working capital; It ensures receipt of payments in a least cost and risk manner; It provides valuable information to investors and traders; and It provides insurance against certain risks.Credit shortages reduce imports and may under certain circumstances, render trade financing more difficult.Declining growth reduces trading opportunities while raising competitive pressure.Devaluation and international financial support can stimulate trade
EFFECTS ON INTERNATIONAL TRADEThe global slow down had an impact on International economy.Reduced capital inflows.Reduced demand of imports by EU, which was the one of the major trading partners in the developing countries like India and African countries.Reduced demand for imports affects their prices and consequently the terms of trade.Declining world output also depressed world trade.Financial crisis possess risks on trade payments.Worsening trade balance as imports increase due to weakening of currencies of our major trading partners.