US-Financial Crisis


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Summarizes the current global financial turmoil that originated from USA.

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US-Financial Crisis

  1. 1. Bhaskar Bhattacharya, Debashis patra PGP 2008-10, Indus World School of Business US Financial Crisis
  2. 2. The Origins <ul><li>Growth of the Housing Asset Price Bubble </li></ul><ul><li>Further fuelled by the collapse of the Dotcom Bubble </li></ul><ul><li>A combination of low interest rates and cheap money </li></ul><ul><li>Widespread lending to subprime borrowers </li></ul><ul><li>Change from Fixed Rate Mortgages to Adjustable Rate Mortgages </li></ul><ul><li>Securitizing these into Mortgage Backed Securities </li></ul><ul><li>The creation of CDO’s and CDS’s by Investment Banks through financial engineering </li></ul><ul><li>Banks and Financial Institutions investing and trading in these high-risk high-return securities </li></ul>
  3. 3. The Subprime Saga <ul><li>What is “Subprime” ? </li></ul><ul><li>Subprime lending and the creation of the subprime market </li></ul><ul><li>Rapid increase in subprime lending by Banks and Financial Institutions </li></ul><ul><li>Consumption led boom coupled with savings rate/disposable income falling from 5.0% to 2.0% </li></ul><ul><li>Speculation rather than economic fundamentals driving the Housing market </li></ul><ul><li>Collapse of the Stock Bubble fed the Housing Bubble even further </li></ul>
  4. 4. The Crisis unfolds <ul><li>Housing Bubble bursts in mid 2007 </li></ul><ul><li>By the end of 2007, Housing prices had fallen between 15% to 30% across various locations in the US </li></ul><ul><li>Home loan defaults rose rapidly by the weaker income groups across the US – The main beneficiaries of subprime lending </li></ul><ul><li>320,000 foreclosures declared by the end of 2 nd quarter of 2007 as against 225,000 during 2001-06 </li></ul><ul><li>Exposure of Banks, Pension Funds and Financial Institutions to CDO’s and SIV’s </li></ul>
  5. 5. Mayhem in the Markets <ul><li>Increase in Subprime Defaults – Trigger for Financial Meltdown </li></ul><ul><li>Falling Real Estate prices+ Slowdown in Construction and Real Estate Sector = slowdown in the Economy </li></ul><ul><li>Mounting losses contributed to shrinkage of lending capacity </li></ul><ul><li>Banks and Financial Institutions exposure to bad debts grew by the day </li></ul><ul><li>Leveraged investors selling MBS and other such holdings in panic – Further drops in prices and more losses </li></ul><ul><li>Drying up of secondary market and availability of short term finance </li></ul>
  6. 6. Blood on Wall Street <ul><li>I-banks heavy exposure to overrated CDS’s and MBS’s </li></ul><ul><li>Reduction in valuation of MBS’s- $ 14.5 trillion as of 2008 </li></ul><ul><li>Weak Regulatory System </li></ul><ul><li>Precursor- Repeal of Glass-Steagal Act(1933) by Gramm-Bleach-Bliley Act(1999) </li></ul><ul><li>Notional value of CDS’s in 2007 = $45 trillion </li></ul><ul><li>Northern Rock, Bear Stearns, Merrill Lynch, Lehman Brothers, AIG, Washington Mutual – They all fall down </li></ul><ul><li>The remaing I-banks, Goldman Sachs and Morgan Stanley become Bank Holding companies after being bailed out </li></ul><ul><li>Citigroup tottering on the brink </li></ul>
  7. 7. Fiscal Stimulus Package 2009 <ul><li>Officially known as – American Recovery and Reinvestment Act of 2009 </li></ul><ul><li>Signed into law on Feb 17 th by President Barack Obama in Denver, Colorado </li></ul><ul><li>Federal Tax Cuts,Expansion of Unemployment Benefits,and other social welfare provisions </li></ul><ul><li>Also includes increased domestic spending in Education, Healthcare and Infrastructure </li></ul><ul><li>Larger than the bailout package or Economic Stimulus Act 2008 </li></ul><ul><li>Final Bill - $ 787 billion with 64% devoted for social sector </li></ul>
  8. 8. References <ul><li> </li></ul><ul><li>The Subprime Crisis A Primer-MIHIR RAKSHIT ,ICRA Bulletin , Money and Finance ,June 2008 </li></ul><ul><li>“ Deal Struck on $789 Billion Stimulus”. New York Times. February 11, 2009. </li></ul><ul><li>“ Why Bankers Got So Reckless” by Prof Amar Bhide, Business Week February 9,2009 </li></ul><ul><li>“ Managing US Financial Crisis” – Dr Satyendra Nayak, Indian Banker, Dec 2008 </li></ul><ul><li>“ The Run-Up in Home Prices: Is It Real or Is It Another Bubble? ” Dean Baker, CEPR, August 2002 </li></ul><ul><li>Lehman Files for Bankruptcy; Merrill Is Sold&quot; article by Andrew Ross Sorkin in The New York Times September 14, 2008 </li></ul><ul><li>And many more……. </li></ul>