Crisis europe
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The document discusses the real problems that led to the global financial crisis, including abundant cheap credit, money created without backing, high fiscal deficits, and highly leveraged financial institutions. It analyzes case studies of Iceland, Greece, Ireland, and the US subprime crisis, noting how easy access to credit fueled unsustainable booms in these countries. While governments have intervened to bail out banks, the underlying issues of too much debt, inflated asset prices, and lack of fiscal discipline remain unsolved.
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Crisis europe
- 2. The Real Problem All Symptoms US Subprime crisis Iceland Greece, Ireland etc What is the real problem Abundance of cheap credit Money created out of nothing High Fiscal Deficits Highly leveraged financial institutions
- 3. The Crisis is not over Some mind boggling numbers (2002-current) Worldwide debt public + Private ($84 to $195 trill) Ireland Debt = 25 (Annual Tax Revenues) Spain and France Debt = 10 (Annual tax Rev) Banks are extensions of Government US Fed reserve taken over $2 trill of junk securities Ireland taken over $80 bn debts of all Ailing Banks The world survives for now People’s faith in Government (shaken but survives)
- 4. Can the world survive? Sure Cut government spending, reduce deficits Reduce Government debt Fiscal Surplus in place of Fiscal Deficit Control money supply, get back to Gold standard? Any chance of it happening Sure, the politicians would do it? (At Gunpoint) Greece implemented austerity (under duress) We, the people need to understand and fight
- 5. Iceland A large insulated country Barely 300,000 citizens Traditional industry was fishing – Profitable Stable: High education, zero poverty etc What happened? Almost overnight Fisherman became bankers Banking assets (loans) 2003 to 2007 (4bn - 140bn) Borrow and buy (Stocks, Real estate across EU) Make extremely risky loans
- 6. Iceland Bizarre social change Everyone wanted to be a banker or in finance University courses shifted Engg to Fin Engg The Culprit: Access to unlimited cheap credit The result $ 100 bn of Banking losses Debts at 850% of GDP Individual debts (Houses, Cars etc)
- 7. Greece 1980’s and 1990’s Greece was seen as Europe’s underperformer Fiscal Deficits high and hence High Interest Rates No Mortgage loans, No Credit cards in Greece And along came the EURO To join EU, they showed FD < 3%, other targets Manipulation of figures to outright fraud Now Greece could get funds at German rates Indiscriminate borrow and spend I-Banks taught them to securitize all cash flows
- 8. Greece Some Stats October 2009 FD was estimated as 3.7% Two weeks later, was revised to 12.5% and then 14 $400Bn of Govt Debt and $800 Bn of pensions $250,000 of debt for each greek citizen Rampant corruption & Low Tax collection Inefficient PSU, Over employment, High Salaries, zero accountability, High social schemes etc
- 9. Ireland A property bubble Flood of cheap credit Financed property developers Construction became 25% of the GDP Prices quadrupled, Rent 1% of property value Worked as long as fresh money kept pouring in The Irish Banks (esp the Big Six) Borrowed cheaply from Germany and USA Total losses $10.6 trillion (4 times Govt Rev)
- 10. Ireland The Bailout Government took over losses of 6 banks Both Depositors and Bond holders Irish FD went up to 32% of GDP Unemployment rate up at 14% and climbing Was the bail out required? Exposure of Banks restricted to Real Estate Depositors protected but why bond holders? Was Irish Govt mislead to the extent of losses? The Irish Banking collapse Simpler, easier to understand bubble No complicated derivates, instruments like CDS etc The Bankers also lost their money unlike USA
- 11. Lessons An Age old lesson – Live within your means Applies for Individuals, Companies and Countries Countries can default, go bankrupt A government bond is not risk free Fiscal Deficits cannot be sustained indefinitely Bailouts are bad Moral Hazard (People take more risks) Money cannot be created out of thin air Cheap and excessive credit is key reason
Editor's Notes
- People and Banks don’t seem to understand that Countries can also default on loans or go bankrupt. Imagine, any Individual or Company which runs up consistent and ever increasing deficits would never be lent to by any banker. Lending to Government is seen as low risk and hence caries a low interest rate
- Interest rates in Greece was almost 10 percentage points higher than a much more stable Germany. i.e. As per the market Greece was seen a riskier than Germany. Estimated Greece interest rates were about 18% and they fell to 5% post Euro.National Lottery, Highway tolls, Airport fees were all securitized and sold.
- Real estate tends to be vulnerable to bubbles every now and then. If buying a property makes no sense from the rent or utility angle and is purely in the hope that prices will rise further, then you are probably in a bubble. Annual rent as % of Property value is a good number to check. Fresh money pouring in would raise prices further enabling all property holders to declare a paper profit.
- The Irish banks had borrowed money externally and hence bondholders were not Irish. So the Irish Government had no real need to bail them out. Infact, most bond holders were expecting losses and were willing to sell the bonds at close to 50% of the value, till the govt stepped in and gave them 100%Unlike in the USA, the Irish bankers were naïve and were themselves perpetrators as well as victims in the bubble. Most of them lost personal wealth and some committed suicide.
- With the exception of some third world countries, Most countries especially in Europe and N America were seen as fundamentally stable and hence can be lent money risk free. This has enabled countries to borrow enormous sums of money on a continuous basis at low interest rates. Once it is seen that Countries can go bankrupt and can default on obligations, countries would be analyzed on a case to case basis and fiscally weak countries would be given loans at higher interest rates or not at all.Bailouts of large private financial institutions have set a bad example. From Inv Banks to Insurance companies to Automobile and even KF airlines, corporations who have made poor business decisions are seeking help on some silly grounds or the other. Competition and free markets imply the failure of organizations which do not adapt to conditions. These are normal and in fact required. Else, top honcho’s in such organizations would believe that they are ‘too big to fail’ and hence take risks in the belief that in the worst case Government will bail them out.