Sub-Prime Crisis: An Economic Perspective

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    Sub-Prime Crisis: An Economic Perspective - Presentation Transcript

    1. Collapsed (Individuals + Corporate + Banks) = Collapsed System
      • Sub-Prime Crisis
      • An Economic Perspective
      PaisaMatters.com
      • The days of high levels of employment and high disposable income in the hands of individuals saw
      1995 – 2006: The Bright and Sunny Days…
      • High demand for commodities and goods
      Source: www.bloomberg.com PaisaMatters.com
    2. 1995 – 2006: The Bright and Sunny Days…
      • Increasing demand led to increased production levels
      • Jobs creation and an all around industrial and economic growth
      PaisaMatters.com
    3. 1995 – 2006: The Bright and Sunny Days… Source: www.ofm.wa.gov PaisaMatters.com
    4. Source: epress.anu.edu.au 1995 – 2006: The Bright and Sunny Days…
    5. 1995 – 2006: The Bright and Sunny Days…
      • The consumer generated organic infusion of money generated strong liquidity in the economy
      • The increasing aspirations and risk taking ability coupled with low interest rates fuelled strong credit growth
      • Banking system flushed with liquidity felt a need to accelerate the credit growth
      PaisaMatters.com
      • High income levels and desire to own a dream home had already created a good mortgage loan portfolio
      1995 – 2006: The Bright and Sunny Days…
      • Low interest rates made the housing more affordable and allowed to borrow more
      • The prime mortgage loan market was falling short of propelling the desired exponential credit growth
      • There was a huge population with ‘ less than perfect credit ’ to be tapped
      PaisaMatters.com
      • Borrowers with less than perfect credit - the Subprime borrowers, presented a mouthwatering opportunity for bankers in the mortgages market
      1995 – 2006: The Bright and Sunny Days…
      • Banks started chasing the subprime borrowers with easy loans
      • People who otherwise could not have afforded a home, bought homes with the high interest rate loans
      PaisaMatters.com
    6. 1995 – 2006: The Bright and Sunny Days… Welcome to the world of Sub-Prime Mortgages PaisaMatters.com
    7. 1995 – 2006: The Bright and Sunny Days…
      • Subprime loans are mortgages given to borrowers with ‘ less than perfect ’ credit or poor credit history
      • Most subprime borrowers are ones with low and inconsistent income
      • Because subprime loans are riskier, they carry a higher rate of interest
      • Not all subprime mortgage loans were used for buying houses but to refinance other obligations like credit card debts, making them even more risky
      PaisaMatters.com
    8. 1995 – 2006: The Bright and Sunny Days…
      • Borrowers were happy to get loans without worrying about credit worthiness
      • Mortgage brokers were happy as they were paid to underwrite these easy selling subprime loans without a responsibility to recover
      • Bankers were happy with the credit growth and higher returns from subprime loans
      • A Win-Win for all, but not for long.
      PaisaMatters.com
    9. 1995 – 2006: The Bright and Sunny Days… PaisaMatters.com
    10. 1995 – 2006: The Bright and Sunny Days…
      • The bankers who originated subprime loans converted them to bundles of securities and sold the packaged Mortgage Backed Securities (MBS) in financial markets
      • This allowed banks to pass on the risk of default to investors of MBS
      • This allowed banks to get these loans off their balance sheet and borrow more, only to originate more subprime loans
      • The buyers of these subprime MBS thought they were taking a calculated risk of default in lieu of higher returns
      PaisaMatters.com
    11. 1995 – 2006: The Bright and Sunny Days…
      • In the “High Risk – High Reward” equation, the involved risks were grossly overlooked for the lucrative rewards
      PaisaMatters.com
    12. 1995 – 2006: The Bright and Sunny Days…
      • Low interest rates
      • +
      • Rising property prices
      • +
      • Banks chasing after borrowers with
      • easy loan offers
      • Result
      • Swollen sub-prime mortgage portfolio
      • &
      • huge debt ridden population
      Source: i.ehow.com Source: Flickr.com PaisaMatters.com
    13. 1995 – 2006: The Bright and Sunny Days… PaisaMatters.com
    14. Q4 2006 – Q2 2007: The Gloomy Evenings
      • Too much money chasing too few goods resulted in increase in commodity prices and rising inflation rate
      • The interest rates started moving northwards
      • Because most of these loans were Adjustable Rate Mortgages (ARMs), the loan installment amount increased
      • Pressure started to mount on borrowers monthly cash outflows to meet the fixed obligations
      PaisaMatters.com
    15. Q4 2006 – Q2 2007: The Gloomy Evenings..
      • Falling demand for properties led to a rapid decrease in property prices
      PaisaMatters.com
    16. Q4 2006 – Q2 2007: The Gloomy Evenings..
      • Rising oil prices and falling stock markets saw an erosion of investments
      • Decreasing demand all around resulted in reduced production levels and job losses
      • Economic slowdown was slowly making an entry
      PaisaMatters.com
    17. Q3 2007 Onwards: The Scary Nights…
      • The subprime borrowers with inconsistent and low incomes could not pay the increased loan installments
      • Banks started to tighten the credit norms preventing subprime borrowers to refinance existing debts to lower payments
      • Borrowers could not sell the property to repay debts as the house was worth less that what they bought for
      • This left borrowers with an option to bring in more money or miss the loan payments
      PaisaMatters.com
    18. Q3 2007 Onwards: The Scary Nights…
      • Improving cash flows was a distant possibility for sub-prime borrowers, missing payments was obvious
      • The sub-prime loan defaults started mounting
      • With a further continuous increase in interest rates, it became almost impossible for borrowers to repay the increased mortgage bills
      • Loan foreclosures started increasing
      PaisaMatters.com
    19. Q3 2007 Onwards: The Scary Nights… PaisaMatters.com
    20. Q3 2007 Onwards: The Scary Nights…
      • Because there were not many buyers for foreclosed properties, banks could not recover their outstanding loans by selling the foreclosed properties
      • With tightened credit norms, fewer borrowers qualified for new loans leading to more homes to sell to fewer buyers
      • Banks left with no other option but to write off the outstanding defaulted loans
      • Once considered cash cows, the high return fetching mortgage backed securities (MBS) became worthless
      PaisaMatters.com
    21. Q3 2007 Onwards: The Scary Nights…
      • In deteriorating economic conditions, sub-prime loan defaults were followed by defaults in
        • prime mortgages
        • home equity loans
        • unsecured consumer loans (car loans, student loans, credit cards) and
        • commercial loans
      PaisaMatters.com
    22. PaisaMatters.com Q3 2007 Onwards: The Scary Nights…
    23. Q3 2007 Onwards: The Scary Nights…
      • Tons of outstanding credit with no recovery in sight saw financial institutions broke
      • This caused more than two dozen lenders to close, sell themselves to larger firms or report unprecedented losses
      • Once massive, some financial institutions filed for bankruptcy
      Source: nancarrow-webdesk.com PaisaMatters.com
    24. Q3 2007 Onwards: The Scary Nights…
      • The panic started to spread
      • Stock markets crashed
      • Lost confidence in financial system
      • Wall street pillars started crumbling
      • USA is witnessing one of the largest systemic collapse in its history
      Source: newsimg.bbc.co.uk PaisaMatters.com
    25. Q3 2007 Onwards: The Scary Nights… Financial Times – 20 September 2008 “… bank boards and bank executives have failed to understand complex mortgage-backed banking products, as have central bankers, regulators and credit rating agencies.” PaisaMatters.com
    26. ?: The Dawn Ahead… Costly though, surely, a lesson for the economy Is the worst over yet? … Probably not ! How long before the economy starts looking-up again? … Nobody knows! Hopefully Sooner, is the Dawn Ahead… PaisaMatters.com

    + paisamatterspaisamatters, 2 years ago

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