global financial crisis aug 11th 2011

8/3/2019 Global Financial Crisis Aug 11th 2011

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Prof. T.S. Marwah



Financial Crisis in USA in 1929 The year 1929 is referred in financial world globally as

the year of “Great Depression”. Real estate bubbleburst was the cause of this “Great Depression” in USA.

Post 1929 – in the year 1930 all major banks in USA declared bankruptcy , in other words all major banks were insolvent.

There was no recapitalization of these banks in USA

in the year 1930 by US Federal Reserve (Central Bankof USA)

American bench mark stock market Index is known as“ Dow Jones industrial Average (^DJIA)



…….contd ^DJIA jumped six fold from just 64 in 1921 to about

380 in the year 1929 .

Then big crack emerged after the bank failures of 1930.

^DJIA crashed from a high of 380 pts to itsbottom of only 41 in 1932- it had given up all the

gain of 8 years of bull run and some more.



Financial Crisis - 2008•

In Q2 2007 onwards, housing mortgage financingcompanies in USA started lending money to potentialhome buyers who were not eligible as per “standard credit norms” in the US housing finance market.

• USA is the biggest economy in the world with a GDP

approx. US $ 14.3 trillion. By January 2008 the totalexposure of all housing mortgage finance companiesreached at a dangerous level of approx US$ 14 trillion.

• This figure of US$ 14 trillion included mortgage

payments to about 10% of borrowers who were noteligible as per standard credit norms

• These borrowers started defaulting on their monthly mortgage EMIs with banks and housing mortgage

finance companies .



……contd • The defaulters were now called “sub-prime

borrowers” in the US financial markets .

•

This happened because of excess liquidity in the USfinancial market and easy monetary policy of the USFederal Reserve.

• “Sub-prime crisis” shocked the US financial market in

January 2008, as the information came into publicdomain that about US$ 1.4 trillion was the exposure of lenders to sub-prime house mortgage borrowers.



…..contd

• ^DJIA corrected nearly 25-30% in January 2008

• US Fed. started investigation into this sub-prime crisisand by June 2008 the information was shocking -

banks and mortgage companies had lent money tohome buyers in USA violating all important norms i.e., job profile , credit rating , repayment capacity etc.Even insurance companies in USA had financed banksand other home lenders to make quick profits . It is

needless to mention that lending rates to sub-primeborrowers were few percentage points higher thanprime borrowers. The prime rate was around 9% p.a.for standard 25 years home mortgage and subprime

rates were charged 11-12% p.a.



…….contd • In early September 2008 the large American

investment banks in USA started reporting huge“mark to market” losses on account of their exposureto Derivatives linked to housing finance ‘Mortgage Bonds’.

• What happened was that from July to early September

2008 - the prices of listed and traded housingMortgage Bonds crashed as a consequence Derivativeslinked to these Bonds also crashed .



….contd The crisis which shocked the US financial markets

and the world was - M/s Lehman Bros. which filedfor bankruptcy in mid September 2008. It was notbuild out by US Fed as it bailed out a medium sizedi-Bank – M/s. Bear Sterns Inc in USA in August2008.

This chain reaction led to series of bankruptcies i.e.Bank of America , Citi Bank , Merrill Lynch , FannieMay, Freddie Mac and AIG etc.



…contd

• US Fed had to intervene and not allow globalinsurance giant AIG to file for bankruptcy as this would have led to a “total collapse” of US financial

markets. US Fed bailed out AIG by giving them US $180 billion .

• This failure of Lehman Bros. and subsequent failureabove said Banks and Housing mortgage finance

companies shattered the US and global financialmarket .



….contd In the last week of September 2008, ^DJIA crashed

in its single largest daily fall in its history –fell 778

points to close at 10365 on 29th

September 2008. Just for information in January 2008 - ^DJIA wastrading at above 14500 levels.

^ DJIA tested low of 7883 on 10th October 2008

down more than 50% its yearly high . Other globalequity indices were also down in October 2008between 45 to 75 % from their yearly highs.



…..contd

US Govt. moved in to revive the economy by getting US$780 billion funding program as “ stimulus package” sanctioned by lawmakers. This program was called TARP

and was used for recapitalizing insolvent banks andhousing mortgage companies.

Other Governments in the world also approved “stimuli packages” for their respective economies to pull them

out of recession. The total estimated global stimuluspackage was in the range of US$ 3 to 3.5 trillion with thesecond biggest stimulus package announced by ChineseGovt with the tune of US$ 600 billion.



……contd. Global economy recovered from low of March 2009 to

August 2010 ( about 18 months) . ^ DJIA doubled fromlow March 2009 of around 6400 to around 13000+ in18 months.



Current Financial Crisis Current financial crisis started with Iceland - a small

economy in Europe which was bailed out IMF inDecember 2010. The issue was Debt to GDP ratio andthe large banks in Iceland facing insolvency due todowngrade of Iceland’s Sovereign debt bonds.

IMF build out Iceland with a US$ 50 billion package.



….contd Next country to default was Ireland which had problem on

two accounts – Sovereign debt issues and solvency issues of four largest banks.

The contagion spread to Greece and Portugal over the nextsix months and Greece was unable to service it SovereignDebt . We repeat that Ireland , Greece , Portugal, Spain ,Italy and off late – France, have one common issue i.e.high Debt to GDP ratio.

Greece was bailed out on 1st July 2010 jointly ECB and IMFby giving emergency aid of Euro 12 billion to avoidSovereign Debt default . This means the Greek Govt. couldnot pay interest on Sovereign Debt as there are no money in their treasury .



…..contd ECB and IMF in the last week of July 2011 bailed out

Greece with a package of Euro 150 billion. Just forinformation Debt to GDP ratio of Greece is more than

170%, with a debt of Euro 320 billion. Debt to GDP ratio of Spain is about 150% and that of Italy is around 78% . The market has perception thatSpain, Italy and now France may not be able to servicetheir Sovereign Debt.

The second issue which caused the current financialcrisis is the downgrade AAA rating of US SovereignDebt to AA+ by American rating Agency – M/SStandard and Poor on Friday 5th August 2011.



…..contd. This rattled the American financial markets as this is

for the first time that US Sovereign Debt has lost its AAA rating.

This downgrade was announced after US Govt. raisedtheir Debt ceiling limit by 2.1 trillion dollars on 2nd August 2011 to avoid Sovereign default.

Current US Sovereign debt US$ 14.00 trillion. ^DJIA crashed 20% after this announcement of debt

ceiling increase and downgrade by S&P. This led toglobal equity market crash.



….contd The fear is that US might also follow on the same path

of sovereign default as it may not be able to service itsdebt .

Fears are USA headed for double dip recession andother recession like to 2008.

Indian exports have shown a surge of more than 50 %

in July 2011 and exports too have shown a surge of about 48 %. But the trade deficit for the month was US$ 11.50 billion. For the last fiscal Indian trade deficit was US $ 105.00 billion



……contd Commerce Secretary – GoI informed media on

8/11/2011 that exports will show a dip in September 2011onwards because of the financial crisis which has hitUSA and EU countries in July and August 2011.

We feel the sectors of the Indian economy which willbe hit on the export front would be – IT and ITes,Textile and other apparel, Gems & Jewellery, Automobiles and components.

Pharma API and FMCG exports should do well.



…..contd Imports will continue to surge due to a strong

domestic demand in India across all sectors . Coal andFertilizer sectors should boom in India.

Consumer electronics, smart mobile phones, lap-tops,golfing gear, high end sports goods, luxury life-styleproducts and fashion apparel are other importedgoods which will do well in India due to strongdomestic demand. Wellness products is another nichearea which will boom in India irrespective of globalrecession. Need less to mention BMWs, Audis, etc.



Cheers to the Indian Economy !

Thanks

8/11/2011

global financial crisis aug 11th 2011

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