Slides

1. Origins of the Crisis
Drawing the Big Picture
September 22, 2014
Paul Ramskogler
Foreign Research Division, Oesterreichische Nationalbank

2. Determinants of the Crisis
1. The Supply of Credit
• Short-term interest rates
• Capital flows and long-term interest rates
2. The Demand for Mortgages and Securitized Bonds (SBs)
• Income inequality and debt
• Institutional investors and institutional funds
3. Institutional Factors
• Rise of shadow banking
• Enabling factors
2

3. 1. The Supply of Credit
Short-Term Interest Rates Made Leveraging Cheap
• Low interest rates reduced the
cost of wholesale funding
• Lending standards were relaxed
and credit supply increased
• The reliance on wholesale
Policy Rates
in %
7%
6%
5%
4%
3%
2%
1%
0%
-1% funding increased
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
BOJ FED ECB
Source: Thomson Reuters.
3

4. 1. The Supply of Credit
Net Capital Inflows Pushed Long-Term Interest Down
Long-Term Interest Rates
4.5%
4.0%
3.5%
3.0%
2.5%
2.0%
1.5%
1.0%
0.5%
0.0%
in %
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
Euro area Japan United States
Source: OECD.
Net Capital Flows to the US
1800
1300
800
300
-200
-700
-1200
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
EU Japan Asia and Pacific China
in bn. USD
Source: U.S. Bureau of Economic Analysis.
4

5. 1. The Supply of Credit
Mainly European Inflows Fuelled Securitized Bond Issues
• European investors heavily
invested in SBs
• US-based wholesale funding
financed much of this
investment
• This helped spread the crisis
quickly to Europe
GrossCapital Flows to and from the US
1800
1300
800
300
-200
-700
-1200
in bn. USD
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
EU, in Japan, in Asia and Pacific, in China, in
EU, out Japan, out Asia and Pacific, out China, out
Source: U.S. Bureau of Economic Analysis.
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6. 2. The Demand for Mortgages and Securitized Bonds
Household Debt Increased Along Rising Income Inequality
• Debt ratios of US households
increased steadily
• There was a noticeable
co-movement of inequality
and debt in the US
• Some relate this to
conspicuous consumption
0.12
0.1
0.08
0.06
0.04
0.02
0
Inequality and Debt
0.38
0.37
0.36
0.35
0.34
0.33
0.32
0.31
0.30
0.29
0.28
1982 1987 1992 1997 2002 2007
Gini Coefficient (at disposable income, after taxes & transfers)
Net Saving Rate (right axis)
in %
Source: OECD.
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7. 2. The Demand for Mortgages and Securitized Bonds
The Rise of Institutional Investors Changed Capital Demand
• There was an increasing shift
toward capital-based pension
schemes
• Increasing capital concentration
shifted funds to institutional
investors
• The liquidity preference of
corporations increased, leading
to a culmination of funds
Total Assets of Institutional Investors
in % of total GDP
11% 11%
13%
15% 15%
76% 74% 76% 79% 78%
13%
63%
44% 49% 53% 57% 59% 51%
160%
140%
120%
100%
80%
60%
40%
20%
0%
2003 2004 2005 2006 2007 2008
EU (23 countries) USA Others
Source:OECD.
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8. 3. Institutional Factors
The Rise of Shadow Banking: Key Characteristics
Shadow banking implies:
• a term transformation providing deposit alternatives
• neither access to a lender of last resort nor conventional deposit insurance
• collateral provides some substitute for deposit insurance
• often an off-balance sheet transaction for the sponsoring institutions
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9. 3. Institutional Factors
The Rise of Shadow Banking: Securitization of Mortgages
Insured
Savings
$
Bank Borrower
Loans
Depositor
$
9

10. 3. Institutional Factors
The Rise of Shadow Banking: Securitization of Mortgages
Institutional investors
$
Bank Borrower
$
Loans Loans
AAA tranche
AA tranche
...
...
‘Toxic’ tranche
10

11. The Rise of Shadow Banking: Instruments
Guaranteed special
purpose vehicles
Asset-backed
commercial paper
Originator Money market funds Investors
Repurchase agreement
(repo)
Repos
3. Institutional Factors
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12. 3. Institutional Factors
The Run on Shadow Banks
US Net Assets of Prime Money Market Funds
Repo Haircut Index (Gorton & Metrick 2012)
• The erosion of trust in the value
of SBs triggered a run on shadow
banks
• Only explicit guarantees stopped
the run
Overnight Commercial Paper Spreads (Net of Fed Funds Rate)
Spread in basis points
350
300
250
200
150
100
50
0
-50
2004-01-01
2004-05-20
2004-10-07
2005-02-24
2005-07-14
2005-12-01
2006-04-20
2006-09-07
2007-01-25
2007-06-14
2007-11-01
2008-03-20
2008-08-07
2008-12-25
2009-05-14
2009-10-01
2010-02-18
2010-07-08
2010-11-25
Source: Board of Governors of the Federal Reserve System.
Lehman's
bankruptcy
Start of Subprime-
Turmoil
Billion USD
2.2
2.0
1.8
1.6
1.4
1.2
1.0
2004 2005 2006 2007 2008
Source: Thomson Reuters.
Lehman
bankruptcy
Start of Subprime-
Turmoil
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13. 3. Institutional Factors
Enabling Factors
• Failure in rating models tacitly changed the information value contained in
ratings
• Banks accepted high tail risks causing high ratings
• Management incentives were flawed and risk management was
insufficient
• Regulatory changes of the 1980s and 1990s allowed substantial increases
in leverage
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14. Major Findings: Determinants of the Crisis
1. The Supply of Credit
• Short-term interest rates
• Capital flows and long-term interest rates
2. The Demand for Mortgages and Securitized Bonds (SBs)
• Income inequality and debt
• Institutional investors and institutional funds
3. Institutional Factors
• Rise of shadow banking
• Enabling factors
14

15. Conclusions
The analysis of the roots of the crisis has shown the necessity to:
• consider gross capital flows in the analysis
• move toward an inclusive growth model
• ensure productive use of institutional capital
• clearly separate shadow banking from traditional banking
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