MBA Thesis presentation on United States Financial Collapses, specifically the Housing Market Crash of 2008 and the Great Depression, and the evolution of the banking and financial services industry over the past century

1. B Y : J O E L S T I T T
A View at the Financial Collapses in
the United States and the Evolution
of the Financial Services Industry

2. Introduction
 Banking History
 Financial Collapses
 Great Depression
 2008 Housing Market Crash
 Current Regulations

3. Consumer Banking
 Can be defined as the cluster of products and services
offered to consumers and small businesses by banks
through a variety of physical and virtual channels
 Modern consumer banking began in the early 20th century
 Income sources prior to modern consumer banking
 Pawnbrokers
 Illegal small-loan lenders
 Family/acquaintances
 Retailers
 Mortgage brokers

4. Modern Consumer Banking
 Consumers began to heavily rely on banks during the
1920s (Roaring 20s)
 Modern consumer banking offers four major
products/services areas:
 Payments
 Savings and Investing
 Credit
 Financial Advice/Other

5. Payments
 Banks allow consumers to pay for goods and services
 The majority of payments in America were paper-
based up through the early 2000s
 By 2008, 57% of consumer payments were made
electronically, up from 29% in 1999
 Banks also heavily rely upon payment services
 Banks in the U.S. attribute over 1/3 of revenues to payment
services
 Newer payment services:
 PayPal, Apple Pay, etc.

6. Savings and Investing
 Banks help individuals save and invest their income
 53% of families in 2013 claimed to have saved some portion of their
money
 Becoming more important as the future of social security is unclear
 Lower risk options
 Savings account
 U.S. Treasury Bills
 Higher risk options
 Company stocks
 Certain bonds and securities

7. Credit / Borrowing
 Two primary ways to borrow money through a bank:
 Credit cards
 Typically short-term debt
 40% of people have credit card debt in 1989 compared to 38% in
2013
 Average amount of debt increased from $900 to $2600 during
that time period
 Installment loans
 Typically long-term debt
 Over 60% of people have some form of installment loan from 1989
to 2013
 Type of loan changed significantly (education loans increased to
20% in 2013 compared to less than 10% in 1989)

8. Financial Advice / Other
 Financial institutions offer financial advice in a
variety of areas
 Investment decisions (Consumer)
 Borrowing decisions (Consumer)
 Understanding financial doctrines (Consumer/Commercial)
 Mergers/Acquisitions (Commercial)
 IPOs (Commercial)
 Use of financial advisors is increasing
 Borrowing decisions: 32% - 41% from 1989 to 2013
 Investing decisions: 33% - 38% from 1989 to 2013

9. Economic Crises & Financial Collapses
 An economic crisis can be defined as an event, typically
following a financial collapse, where the economy slides
into a recession or a depression
 Common Symptoms
 Poor economic performance
 Increased unemployment rates
 Stagnant global domestic product
 “The seven year theory”
 Two of the most significant in recent U.S. history
 Great Depression, 1929
 Housing Market Crash, 2008

10. Great Depression
 Largest economic crisis in U.S. history
 The Economy
 Quantity of goods/services available lowered by 33%
 Over 25% of Americans unemployed
 An estimated 7000 banks closed
 34 million Americans with zero income
 20% malnourished Americans
 Many citizens lost their savings and trust in banking

11. Causes
 Stock market crash of 1929
 Roaring 20s and the Bull Market
 By 1929, 1.5 million people had accounts covering 29 of America’s
stock markets
 One in four families had an active interest in the stock market
 600,000 individuals trading on the margin

12. The Banking Industry during the Great Depression
 Banking Failures
 Led to a significant decrease in value of securities and loans
 1700 banking failures in 1931 and 1932 which increased to over
4000 in 1933
 “Contagion”
 Deflation
 People were hesitant to spend their money or to deposit it into
banks
 Banks were holding larger cash reserves in order to combat
contagion
 As the stock of money supply decreases, the prices of goods
and services follow suit

13. Government Reaction
 Roosevelt created banking holiday on March 6th,
1933
 Four day closure of all banks, including the Federal Reserve
 Announced the Emergency Banking Act
 Advertised deposit insurance on all reopened banks
 FDR’s “The New Deal”
 Banking Act of 1933 (Glass-Steagall Act)
 Federal Deposit Insurance Corporation (FDIC)
 Started operations in 1934
 Insures deposits in banks

14. Banking Trends Following the Great Depression
 Newer Products / Services
 Increased Demand / Access
 Consumer-based decisions

15. Newer Products / Services
 Rising popularity of credit cards
 Became popular beginning in the 50s
 Automated Clearing House Payments (ACH)
 Introduced in the 70s
 Automated Teller Machines (ATM)
 Introduced in the 70s
 Point of Sale Technology
 Introduced in the 80s
 Electronic payments surpassed check payments by
2003

16. Increased Demand / Access
 Consumers have more income
 Annual median income per family rose from $7,550 in 1962 to
$47,300 in 2013
 Some modern businesses require electronic payment
or payment by check
 Planet Fitness, Cards Against Humanity
 Increase in popularity of shopping online
 Leads to an increase in electronic payments online
 Convenience

17. Consumer-based Decisions
 The internet has allowed consumers to more easily
access information regarding financial decisions
 The number of consumers using the internet surpassed the
number using financial associates for borrowing decisions
between 2007-2010
 The number of consumers using the internet for investing
decisions expected to surpass financial associates by 2016
 Over 72% of families use the internet for financial purposes in
2013, over 20 times greater than in 1995

18. Deregulation of Banking in the 1970s
 Reinterpretations of the Glass-Steagall Act
 1986 – 5% of revenues allowed to derive from investment
activities
 1996 – Up to 25%
 Riegle-Neal Interstate Banking and Branching
Efficiency Act of 1994
 Banks were allowed to merge over state lines, eliminating
many inter-state restrictions
 Banks consolidated rapidly
 27% less banks by 1998

19. Housing Market Crash of 2008
 Considered the largest financial collapse since the
Great Depression
 Tens of millions of lost jobs, savings, and houses
 Thirty million unemployed globally
 Doubled the debt of the United States

20. Causes
 Sub-prime Mortgage Loans
 The “New” Financial System
 Belief in the Housing Market

21. Subprime Mortgage loans
 Sub-prime mortgage loan – a mortgage loan that is
issued to an individual with poor credit
 Have ten times the default rate of prime loans
 Increased four times to 20% of all mortgage loans between
1994 and 2006
 Consumers were able to borrow up to 99.3% of the house’s
worth (very little money down)
 Many adjustable rate loans
 https://www.youtube.com/watch?v=xy8a0GKO_Ek

22. The “New” Financial System
 Mortgage-backed Securities, Collateralized Debt
Obligations (CDOs), and Credit Default Swaps

23. Belief in the Housing Market
 “I cannot foresee any decrease in the price of the housing market, Freddie
Mac’s analysis shows that there was not a single year in fifty years where
the average housing price decreased” - Frank Nothaft, Chief Economist of
Freddie Mac, 2005
 Housing prices increased 132% between 1997 – 2006, as compared to 8.3%
between 1990 – 1997.
 What would have happened if housing prices continued to rise?
 Consumers could have renegotiated rates or sold their loans instead of
foreclosing
 Banks would have had low default rates on risky mortgage loans
 Credit rating agencies would have been accurate with their AAA ratings
 Insurance companies would have held little liability on credit default
swaps
 The government wouldn’t have received blame for holding little
regulation over CDOs and credit default swaps
 Housing prices took their first fall in late 2006
 Foreclosure rates increased by 75% in 2007

24. The Beginning of the Crash: Lehman Brothers
 Filed for bankruptcy on September 15, 2008
 Largest bankruptcy in history at the time
 639 billion in assets
 25,000 worldwide employees
 4th largest investment bank at the time
 Was the largest lender of mortgage-backed securities
in 2007
 Completed “Repo-105” transactions to dilute
transparency

25. Guilty Parties
 Financial Institutions
 Consumers
 The U.S. Government

26. Financial Institutions
 Not completing proper due diligence in the loan
lending process
 Predatory Lending
 Citigroup paid $215 million in fines in 2002 to end dispute
over abusive loan practices
 Greed: short-term profits and bonuses > long-term
sustainability
 Wall Street Execs received bonuses equal to $23.9 billion in
2006 alone
 Goldman Sachs had $16.5 billion of income allocated towards
salaries in 2006, which averages to roughly $622,000 per
employee

27. Consumers
 Poor consumer financial decisions
 Unaffordable loans
 Median household price was roughly 2.9 to 3.1 times the median
household income from 1980-2000
 Ratio grew to 4.6 times from 2001-2006
 In 2006, 39 million households spent 30% or more income on
housing and 18 million spent over 50%
 Common recommendations are to keep household under 30%
of income
 Consumers were living outside their means

28. Government
 Failed to regulate properly and deregulated banks throughout the
late 20th century
 Did not regulate the trillion dollar industry of credit default swaps
 Promoted poor lending decisions through government sponsored
agencies (GSEs)
 Affordable housing act
 1992 quota – 32%
 2000 quota – 50%
 2007 quota – 55%
 To meet demand, Freddie Mac and Fannie Mae
 Offered zero down payment mortgage loans by 2000
 Purchased a trillion poor or subprime loans by 2002
 By 2008, 27 million subprime mortgage loans were in the market
(50% of all loans)
 GSE’s were holding or guaranteeing 70% of them

29. Current Regulation
 The Dodd Frank Act of 2010
 CCAR
 Volcker Rule
 Basel III Framework

30. Dodd Frank
 Most significant law in response to the financial
crisis of 2008
 SEC has adopted 61 final rules as of March 2016
 Key Risk Areas
 Private Funds -Asset-backed securities
 Security-based swaps -Credit Rating agencies
 Clearing agencies -Specialized Disclosures
 Municipal securities advisors
 Executive compensation

31. Dodd Frank
 The Dodd Frank Act also formed the following
government organizations:
 Office of the Whistleblower
 Office of Credit Ratings
 Office of Investor Advocate
 Office of Women and Minority Inclusion
 Office of Municipal Securities
 Consumer Financial Protection Bureau (CFPB)
 Financial Stability Oversight Board (FSOB)

32. Comprehensive Capital Analysis and Review
(CCAR)
 Administered by the Federal Reserve Board (FRB)
 Requires Global Systematically Important Banks
(GSIB) to complete annual or semi-annual “stress
tests”
 Accounts for 28 different economic variables
 2016 stress test
 Unemployment rises to 10%
 Treasury bonds decrease in value
 Objective is to ensure that banks can still function in
economic downturns

33. Volcker Rule
 Created with Dodd Frank in 2010
 Finally implemented in July 2015
 Restricts proprietary trading within major banks
 Help to prevent banks from making risky,
speculative bets with customer deposits
 Still unclear exactly how it will be interpreted and
enforced

34. Basel III Framework
 Voluntary international standard for banking
regulation
 Countries can choose whether or not to adopt it
 U.S. announced to implement the majority of the
framework in 2014
 Banks will progressively meet the standards by 2019-
2021

35. Basel III Framework
 Three Pillars
 Pillar one
 Capital, risk coverage, containing leverage
 Pillar two
 Risk management and supervision
 Pillar three
 Market discipline
 Banks will adhere to varying degrees of compliance
standards based on their size

36. Working Towards a Safer Financial System
 Governance and Risk Management
 Better Banking Cultures
 Recovery and Resolution Planning
 Consumer Protection
 Consumer Fiscal Responsibility

37. Governance and Risk Management
 Banks primarily have three main lines of defense
 Front-line units
 Independent risk management
 Internal Audit
 Front-line units need to become more accountable to
regulatory requirements
 Core of the business
 More intimate knowledge of operations

38. Building Better Banking Cultures
 Poor reputations – greedy and corrupt
 Lehman Brothers
 Use a top-down approach
 Consider new incentive systems
 What it will lead to:
 Banks with strong values worrying more than just if transactions
within the law
 Better brand images, brand values, and reputations for banks

39. Recovery and Resolution Planning
 Banks are now required to file annual reports to the
FRB and FDIC
 Demonstrates that banks can remain resolved under a
bankruptcy and not cause severe affects on the U.S. economy
 All banks are expected to be operationally ready to
be resolved by 2017
 Banks without acceptable reports are likely to receive
higher liquidity and capital requirements

40. Consumer Protection
 The Dodd Frank Act created the Consumer Financial
Protection Bureau (CFPB)
 Consumer Financial Protection Bureau
 Actively uses consumer and market data to track consumer
complaints and uses its authority to adopt new laws and
increase consequences for certain activities to protect
consumers
 Mortgage lending and credit card lending
 New disclosure requirements
 Created fee limits
 CFPB’s current short term goals
 Enforce actions on pricing discrimination for auto financing and
student loans

41. Consumer Fiscal Responsibility
 Consumers must become more accountable for their
role in causing financial crises
 Become educated on the risks of using newer technologies and
the exposure to risk
 Understand debt obligations and budget properly to ensure
debts are affordable
 If you cannot understand terms of a loan, use the assistance of
a lawyer, accountant, or third party financial associate

42. Conclusion
 Banking has evolved significantly over the past century
 Newer technologies and innovations lead to newer risks
 Financial crises will occur again
 Consumers, financial institutions, and the government
need to work together to minimize risk and exposure to
future financial collapses

43. References
 Allen, F. (2001, February 8). Do Financial Institutions Matter? Retrieved from http://fic.wharton.upenn.edu/fic/papers/01/0104.pdf

 Bank for International Settlements (2016). International Regulatory Framework for Banks (Basel III). Retrieved from http://www.bis.org/bcbs/basel3.htm

 Calder, L. (1999). Financing the American Dream. Retrieved from
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 Cardhub (2016). Store Credit Cards. Retrieved from http://www.cardhub.com/store-credit-cards/
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 Clark, T., Dick, A., Hirtle, B., Stiroh, K., & Williams, R. (n.d.). The Role of Retail Banking in the U.S. Banking Industry: Risk, Return, and Industry Structure.
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 Consumer Finance Protection Bureau (1962, March). Survey of Financial Characteristics of Consumers. Retrieved from
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 Consumer Finance Protection Bureau (2014, March 31). 2013 Consumer Finance Survey. Retrieved from http://www.consumerfinance.gov/data-
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 Cox, C. (2008, October 23). Testimony Concerning the Role of Federal Regulators: Lessons from the Credit Crisis for the Future of Regulation. Retrieved from
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 Deloitte (2015). Top Regulatory Trends for 2015 in Banking. Retrieved from http://www2.deloitte.com/us/en/pages/regulatory/banking-regulatory-outlook-
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 Dunbar, J. & Donald, D. (2014, May 19). The Roots of the Financial Crisis: Who is to Blame? Retrieved from
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 Egan, M. (2015, July 16). Netflix is up over 500% in 5 Years. Retrieved from http://money.cnn.com/2015/07/16/investing/netflix-stock-surge/
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 Federal Deposit Insurance Corporation (2014, January 1). Historical Timeline. Retrieved from https://www.fdic.gov/about/history/timeline/1930s.html

44. References Cont.
 Federal Reserve (2007). Electronic Fund Transfer Act. Retrieved from http://www.federalreserve.gov/boarddocs/caletters/2008/0807/08-07_attachment.pdf

 Federal Reserve Board (2016, March 14). Household Debt Service and Financial Obligations Ratios. Retrieved from
http://www.federalreserve.gov/releases/housedebt/default.htm

 Federal Trade Commission (2013, January). Your Equal Credit Opportunity Rights. Retrieved from https://www.consumer.ftc.gov/articles/0347-your-equal-
credit-opportunity-rights

 Federal Reserve Board (2016, January 28). Press Release. Retrieved from https://www.federalreserve.gov/newsevents/press/bcreg/20160128a.htm

 Ferguson, C. (2010, October 10). Inside Job. Retrieved from http://www.sonyclassics.com/insidejob/
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 FFIEC (2015, September 17). Home Mortgage Disclosure Act. Retrieved from https://www.ffiec.gov/hmda/history.htm

 FSOC (2015). 2015 Annual Report. Retrieved from https://www.treasury.gov/initiatives/fsoc/studies-
reports/Documents/2015%20FSOC%20Annual%20Report.pdf

 Getter, D. (2014, April 9) U.S. Implementation of the Basel Capital Regulatory Framework. Retrieved from https://www.fas.org/sgp/crs/misc/R42744.pdf

 Holt, J. (2009). A Summary of the Primary Causes of the Housing Bubble and the Resulting Credit Crisis: A Non-Technical Paper. Retrieved from
https://www.uvu.edu/woodbury/docs/summaryoftheprimarycauseofthehousingbubble.pdf

 Johnson, P. (1999). America’s Great Depression. Retrieved from
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 Joint Center for Housing Studies of Harvard University (2008). The State of the Nation’s Housing 2008. Retrieved from
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 Liebowitz, S. (2008, October 3). Anatomy of a Train Wreck. Retrieved from https://www.independent.org/pdf/policy_reports/2008-10-03-trainwreck.pdf
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 Mitchell, D. (2015, July 16). These Were the 6 Major American Economic Crises of the Last Century. Retrieved from http://time.com/3957499/american-
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45. References Cont.
 Richardson, G. (2013, November 22). Banking Panics of 1930 and 1931. Retrieved from http://www.federalreservehistory.org/Events/DetailView/20

 Roberts, D. (2015, July 22). The Volcker Rule Takes Effect Today After Years of Delay. Retrieved from http://fortune.com/2015/07/22/volcker-rule/
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 Ryan, A., Trumbull, G., & Tufano, P. (2010). A Brief Postwar History of US Consumer Finance. Retrieved from
http://www.hbs.edu/faculty/Publication%20Files/11-058.pdf

 SEC (2016, March 11). Implementing the Dodd-Frank Wall Street Reform and Consumer Protection Act. Retrieved from http://www.sec.gov/spotlight/dodd-
frank.shtml#

 Sherman, M. (2009, July). A Short History of Financial Deregulation in the United States. Retrieved from http://cepr.net/documents/publications/dereg-
timeline-2009-07.pdf

 Srinivas, V. (2016). Banking Industry Outlook: Banking Reimagined. Retrieved from http://www2.deloitte.com/us/en/pages/financial-
services/articles/banking-industry-outlook.html

 Steverman, B. & Bogoslaw, D. (2008, October 18). The Financial Crisis Blame Game. Retrieved from http://www.bloomberg.com/news/articles/2008-10-
18/the-financial-crisis-blame-gamebusinessweek-business-news-stock-market-and-financial-advice

 U.S. Department of the Treasury (2016, April 24). Daily Treasury Long Term Rate Data. Retrieved from https://www.treasury.gov/resource-center/data-chart-
center/interest-rates/Pages/TextView.aspx?data=longtermrateYear&year=2000

 Wallison, P. (2011, December 13). Hey, Barney Frank: The Government Did Cause the Housing Crisis. Retrieved from
http://www.theatlantic.com/business/archive/2011/12/hey-barney-frank-the-government-did-cause-the-housing-crisis/249903/

 Walter, J. (2005). Depression-Era Bank Failures: The Great Contagion or the Great Shakeout? Retrieved from
http://www.unc.edu/~salemi/Econ423/Depression_Era_Bank_Failures.pdf

 Weill, S. (2003, May 8). The Long Demise of Glass-Steagall. Retrieved from http://www.pbs.org/wgbh/pages/frontline/shows/wallstreet/weill/demise.html

 Wheelock, D. (n.d.) The Great Depression: An Overview. Retrieved from https://www.stlouisfed.org/~/media/Files/PDFs/Great-Depression/the-great-
depression-wheelock-overview.pdf

 White, E. (1990). The Stock Market Boom and Crash of 1929 Revisited. Retrieved from http://www.rose-hulman.edu/~bremmer/EMGT/paper/white.pdf