It is all about the recession of 2008 and the role of institutions and great personalities who had ruined their own economies at that time.

1. Final
Project
International Business
SubmittedTo:
Sir Imran Bashir
Submitted By:
Hassan Shafique (123218)
Zeeshan Azam (123220)
M. Asad Bin Asif (113245)

2. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 2
Table of Contents
 Introduction
 How we got here
 Background
 The Regan Administration in united states
 Financial Engineering
 Colleteral debt obligations
 Sub prime
 The Bubble
 Insurer and investors
 Goldmen Sachs
 The Beginning of crisis
 Accountability of loss recorded
 After Crisis effect
 Some notable Quotations
 Refrences

3. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 3
Our assigned project proceeds with a case study of Iceland, a nation that was possessed by
the cancer of free radical finance. Iceland was stable low
crime, strong education, and strong stability in social and
financial systems. Multinational corporations such as Alcoa
were then allowed to come into Iceland and install their
business thereby disrupting the integrity of the system.
Three of their largest banks were privatized and in only five years, they combined to borrow
a sum equal more than 10 times Iceland’s total GDP. Reckless borrowing and lax lending
became commonplace.
A businessman named Jon Asgeir Johannesson, former head of the major retail company
Bagur, is noted for taking out a loan amounting to billions of dollars. Jon used this money to
purchase investments such as other top retail businesses and consumer goods such as a $40m
yacht and a fashionably designed private jet. Beginning with the introduction of Alcoa into
Iceland, whose aluminum plants were colonizing some of the richest portions of Iceland’s
greenery and continuing with various provisions of deregulation such as bank privatization
and lax requirements for bank loans some of which were massive the dominion of finance
was interfacing Iceland. Gylfi Zoega, Professor of Economics at the University of Iceland,
comments on this financial possession by stating simply, Finance took over, and uh more or
less wrecked the place.
Credit rating agencies analyzed a vastly overleveraged and indebted Iceland and, reflecting a
pattern throughout the global financial system, gave Iceland a satisfactory or spectacular
rating. Sigridur Benediktsdottir, member of the special investigative committee of the
Icelandic Parliament says regarding the three Icelandic banks that combined to borrow over
ten times Iceland’s entire GDP, in February 2007, the rating agency decided to upgrade the
banks to the highest possible rating triple A.
In a word, due to the dominion of chaotic finance, Iceland was being drained of financial
resources and other resources that are related to finance, such as the natural land, education,
civil stability, personal quality of life, and trust in the system. Iceland began this journey into
the dangerous power known as excess money, and has been struggling with incredible debts
material and immaterial since the journey began.
Introduction

4. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 4

5. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 5
During the forty years of economic growth in the United States, investment banks were small.
A prominent investment bank named Morgan Stanley, in 1972, had 110 employees and $12m
in capital and now in 2009 has 50,000 employees and several billions in capital. In the 1980s,
the financial sector quantum leaped because investment banks were going public which
brought them vast sums of stockholder capital in return. From 1978-2008, the average salary
for workers outside of investment banking in the US increased from $40k to $50k a 25
percent salary increase and the average salary in investment banking increased from $40k to
$100k a 150 percent salary increase.
Background:

6. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 6
The Reagan administration of the United States in the early 1980s began a thirty-year period
of financial deregulation. By then end of the 1980s, many workers in the financial sector
were going to jail for fraud and many people were losing their life savings. Large investment
banks began merging and developing monopolies.
By the end of the 1990s, many internet companies dropped and massive investments in
internet stocks amounting to $5t - were lost, and once again, financial regulators allowed the
excessive betting and subsequent crisis to occur. Eliot Spitzer, Former Governor of New
York and Former New York Attorney General, conducted an investigation into the internet
crisis that revealed investment banks were promoting stocks they knew were likely to fail,
because they earned commissions based upon how much business they brought in another
pattern in the global financial crisis.
Spritzer’s case resulted in ten investment banks - Citigroup, Goldman Sachs, UBS, Morgan
Stanley, Merrill Lynch, Lehman Brothers, J.P. Morgan, Deutsche Bank, Credit Suisse, and
Bear Stearns paying a total of $1.4b as punishment.
The Reagan administrationof the United States:

7. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 7
Financial engineering became a new field of study and derivatives were developed.
Derivatives are basically bets, various types of bets. A well-known derivative is an option.
When investing in an option rather than a stock, I am investing in the opportunity to buy or
sell a stock rather than the stock itself – thus, the option is a „spinoff‟ of the stock, and is
derived from the stock, hence the name „derivative‟. I can invest in options and I can trade
options, as if they were stocks. With derivatives, there are all sorts of bets speculators can
make – derivatives can include bets on a company‟s stock, commodities prices, the
likelihood of a company‟s bankruptcy, and even the weather. An issue with derivatives is that
if I choose to make a bet with my personal funds, then that is okay, although if I choose to
make a bet with the equity in my business, then I am betting with other people‟s money and
lives. In the current financial system, I can make these bets on investments other than
derivatives, although derivatives are special simply because their existence makes pool of
possible bets much larger.
Enter the securitization food chain, the new system that birthed extravagant mortgage lending
and the incredible housing bubble. There are five positions, in sequential order in the chain.
 Home buyers
 lenders
 Investment banks
 Investors
 Insurance companies
A single loan payment passes along this chain, earning material gain for each position along
the way.
Financial Engineering
Collateral Debt Obligations

8. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 8
 Home buyers come to the lenders for a mortgage to buy a home
 lenders extend the loan to the home buyers and home buyers receive a home
 lenders sell the mortgage to investment banks and receive a commission
 Investment banks mix the mortgages with other debts such as corporate buyout debts,
car loans, student loans, and credit card debts and this mix is named Collateralized
Debt Obligations (CDOs), then they pay rating agencies to grade the CDOs and then
the investment banks sell the CDOs to investors and receive a commission
 Insurance companies, particularly AIG, would earn commissions by selling insurance
to investors for the CDOs they purchased from the investment banks, which is named
Credit Default Swaps – if there was a default on the CDO, then AIG would cover the
losses furthermore, AIG would also sell Credit Default Swaps to speculators who did
not own any CDOs, therefore if there was a default on a single CDO, then since an
investor and speculators have insurance on this same CDO, AIG would have to pay
money to the investor who actually owned the CDO and the speculators who did not
own the CDO.
The rating agencies grading the CDOs that investment banks sold to investors often gave the
CDOs triple A ratings the highest possible which means investors often purchased these
CDOs as secure investments. CDOs made their way into retirement funds, which needed to
be secure because people were depending on these funds for their retirement money, although
CDOs were generally graded inaccurately and extremely risky. The reason many CDOs were
risky was because lenders still received their commission whether the mortgage was repaid or
not, because they sold the mortgage to the investment banks. Since lenders were removed
from risk, they could lend extravagantly and receive a commission in return. The investment
banks and the rating agencies were also able to receive commissions regardless of how the
CDOs performed. Gillian Tett, United States Managing Editor for The Financial Times
summarizes the extravagant mortgage lending, “You weren’t going to be on the hook and
there weren’t regulatory constraints, so it was a green light to just pump out more, and more
and more loans.” The number of mortgage loans made each year from 2000-2003 nearly
quadrupled

9. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 9
A type of loan which is granted to individuals with poor credit ratings, who then are not able
to qualify for conventional mortgages. Because subprime borrowers present a high risk of
lenders, interest charges above their prime lending rate
The riskiest mortgages, termed „subprime‟, were combined with other debts in the CDO
package and thereby received a high rating when the CDO received a high rating, even
though the subprime mortgages were the riskiest mortgages of all.
Also, because subprime loans were riskier, they demanded higher interest rates to compensate
for the likelihood the borrower would default on the loan; therefore, subprime loans were in
high demand because they would bring greater commissions when sold.
The sweet nectar of subprime loans – the forbidden fruit – sparked a wave or „predatory
lending‟, which resulted in more borrowers than usual being identified as subprime and
having to pay higher interest rates and many borrowers receiving loans that they could not
repay.
Robert Gnaizda, Former Director of the Greenlining Institute explains the situation, “All the
incentives that the financial institutions offered to their mortgage brokers were based on
selling the most profitable products, which were predatory loans.”
The uncertainty argument about the existence and size of a bubble one of the two leading
arguments presented by Bernanke (2002) to argue against monetary policy targeting of asset
prices – is a very weak argument on which to base a view against monetary policy targeting
of asset prices. All economic policy decisions are based on some degree of uncertainty –
uncertainty about the data (observation uncertainty), uncertainty about the parameters of the
right economic model (parameter uncertainty) and, even, uncertainty as to whether certain
economic variables matter for economic activity (model/paradigm uncertainty). As far as data
observation uncertainty goes, knowing about the existence and size of asset bubbles is not
easy, but it is also not easy to estimate the output gap when there are radical changes in the
economic structure or to estimate expected inflation. The fact that it was hard to estimate the
output gap or changes in the NAIRU and the inflation process in the mid-late 1990s did not
Sub Prime
The Bubble:

10. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 10
prevent Greenspan, Bernanke and the other Fed governors from doing their best to find the
best forecast of these changing variables. The Fed did not drop inflation or output from the
Taylor rule because it was hard to estimate output gaps and expected inflation in a rapidly
changing economic structure.
Since anyone could get a mortgage, home sales and housing prices exploded, creating the
largest financial bubble in history.
 Notably, Countrywide Financial issued nearly $100b in mortgage loans. Investment
firms that traded debts in the securitization chain were earning massive sums of
money and their CEOs were receiving huge bonuses. The CEO of the investment
bank Lehman Brothers, Richard Fuld, received nearly $500m in bonuses. Nouriel
Roubini, Professor of Economics at New York University, comments on the
significance of growth of the financial sector in the global financial market, “By 2006,
about forty percent of all profits of S&P 500 firms was coming from financial
institutions.” Martin Wolf, Chief Economics Commentator for The Financial Times
adds, “It wasn’t real profits, it wasn’t real income….Two, three years down the road
there’s a default – it’s all wiped out. I think, in retrospect, it’s been a great
big…global ponzi scheme.”
 Once again, regulators allowed the financial extravagance to ensue. Investment banks
were seeking to borrow more money to trade more debt and earn more profits. Early
on, for every one dollar the investment bank invested from its own funds, it invested
an additional three dollars of borrowed funds. Daniel Alpert, Managing Director of
Westwood Capital comments on the growth of excessive leverage, “The degree of
leverage in the financial system became, absolutely frightening. Investment banks
leveraging up to level – thirty-three to one which means that a tiny three percent
decrease in the value of their asset base would leave them insolvent.”

11. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 11
Remember AIG, the company that provided insurance on CDOs? Well, AIG was promising
to cover the costs if there was a default on the insured CDOs, although it did not have the
money to do so. Rather than setting aside the income from selling insurance on CDOs, it
divided that income between its higher level managers paying over $3b in corporate bonuses
during this period. Since firms were able to earn profits upfront and worry about paying for
their bets later, there was an incentive to take bets that could put their entire firm and even the
global financial system at risk in exchange for large immediate bonuses.
Investment bankers were spending bonuses on luxury items such as jets, yachts, mansions,
and vacation homes, as well as drugs and prostitutes. Often, the bankers used corporate funds
for these purchases and identified them as common business expenses such as computer
repair or routine cleanings.
Prominent investment bank, Goldman Sachs, began betting against the CDOs it was issuing.
Goldman Sachs knew those risky CDOs were primed for default and figured it could profit
from trading the CDO and then profit when there was a default on that same CDO. Goldman
Sachs also purchased Credit Default Swaps from AIG in order to bet against CDOs it did not
own. Goldman realized AIG was itself primed for bankruptcy and began betting against
AIG‟s collapse, therefore, the more bets Goldman purchased through AIG, the more unlikely
AIG would be able to follow through on its insurance, the more likely Goldman would profit
from AIG‟s collapse. Although Goldman Sachs saw it reasonable to bet against the CDOs,
they continued to trade the CDOs as if they were safe. Further, Goldman began trading CDOs
that paid them more when their clients lost more.
When executives of Goldman Sachs testified before Congress regarding it selling securities
that it bet against, the executives generally show that they do not see this as an issue. When
executives of the credit rating agencies that graded risky CDOs as stellar testified before
Congress, they emphasized the fact that their ratings are merely opinions and the agencies
assume no responsibility for the securities they rate.
Insurers and Investors:
Goldman Sachs:

12. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 12
 The Federal Reserve System ignored repeated warnings of a major crisis from global
financial analysts such as Raguram Rajan of the IMF, Domnique Strauss-Kahn of the
IMF, Nouriel Roubini of New York University, and Allan Sloan of Fortune
Magazine.
 Now it is 2008, and the debts are coming due. Those risky mortgages are now
ripening into foreclosures and bankruptcies. Bear Stears runs out of money in March
2008 and is acquired by J.P. Morgan for two dollars per share. Fannie Mae and
Freddie Mac, two major mortgage lenders are acquired by the US government.
Lehman Brothers reports recorded losses and a stock collapse.
 Numerous investment firms were still rated double and triple A shortly before their
collapse
The narrator says, “The men who destroyed their own companies and plunged the world
into crisis, walked away with their fortunes intact.”
The CEOs of major investment firms received millions of dollars in bonuses, despite their
companies‟ collapse.
Investment firms enlisted advisors from academia through companies such as Compass
Lexicon, to speak in the media and write papers on their behalf. Academia does not comment
on academic conflicts of interest.
The beginning of Crisis
Accountability of the Loss recorded

13. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 13
The United States was declining, as shown through wealth gaps and outsourcing.
Manufacturing jobs are diminishing and information technology jobs were becoming more
abundant, although these jobs typically require an education that most Americans cannot
afford. Tax policies in the United States were increasingly favoring the wealthy, such as the
elimination of the estate tax. Wealth inequality was the highest in the United States of all the
developed nations. Although the Presidential administration of the United States has
officially changed, the same Wall Street players are now economic advisors in the new
administration.
After crisis effects:

14. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 14
The narrator concludes: “For decades, the American financial system was stable and safe, but
then something changed. The financial industry turned its back on society, corrupted our
political system, and plunged the world economy into crisis…the men and institutions that
caused the crisis are still in power and that needs to change.
They will tell us that we need them, and that what they do is too complicated for us to
understand. They will tell us it won‟t happen again. They will spend billions, fighting reform.
It won‟t be easy, but some things, are worth fighting for.”
Some notable Quotations:

15. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 15
Lee Hsien Long - “When you start thinking that you can create something out of nothing, it‟s
very difficult to resist.”
Narrator - “This crisis, was not an accident.”
Charles Morris - “I had a friend - he was a bond trader with Merrill Lynch in the 1970s. He
had a job as a train conductor at night, because he had three kids and couldn‟t support
them with what a bond trader makes. By 1986, he was making millions of dollars and
thought it was because he was smart.”
Eliot Spitzer - “High-tech is a fundamentally creative business where value generation and
the income is derived from actually creating something new and different.”
Andrew Sheng - “Why should a financial engineer be payed…four times more than a real
engineer? A real engineer builds bridges, a financial engineer builds dreams. And those
dreams turn out to be nightmares – other people pay for them.”

16. INTERNATIONALBUSINESS Final Project
The Institute Of Management Sciences 16
Refrences
1. “Junk Mortgages under Microscope”by Allan Sloan
Fortune Magazine October16,2007
2. “Has Financial Development made the world Riskier”
by Raghurar G. Rajan
3. “Why Central Banks Should Burst Bubbles” by Nouriel
Roubini
4. “Who’s holding the Bag?” May 2007 Pershing Square
Capital Management, L.P.
5. “Inside Job” a Documentary film by Andri Magnason