Who Was to Blame for the Banking Crisis - Essay Example

Who was to Blame for the Banking Crisis? The banking Crisis The banking crisis of 2007 started from a few uninteresting set of events that became the core reasons to spread around the world. It’s not like everything happened suddenly, but the signs were all there. It took two years that lead to the great depression to develop and a few wrong moves due to which the crisis failed to be contained and spread at every other level; irrespective of the fact it was related to economics or not. Banking industry suffered great loss but above all the things, the relation it had with its investors suffered greatly and irrevocably. After the Great Depression of 1930 the world economy faced a dangerous financial crisis. It all began when sky rocket property prices in the United States started decreasing and this impact soon spread all over the financial sector. The Global Financial Crisis initiated in July 2007 with the credit crunch when US investors lost confidence in the investment of mortgage property. This all compelled US investors to inject a large portion of capital into the financial market. By September 2008 the crisis got worse and hit all stock markets globally and made the market volatile. The consumers started losing confidence in properties and the stock market and were in a position of fear what could be lying ahead of them (Broman, 2012). Causes and important events The banking industry has seen many fiscal crises in the past, the notable one of them being the one that started in the 1930. Since then many countries have seen ups and downs when it comes to their banking industry. The most recent one of them being that in 2007; which changed the perspective of many investors and regulators. It all took one Lehman Brothers to go bankrupt for the Wall Street crisis panic to spread worldwide and affect other countries, developing or developed. The causes were smaller in person and unimportant but together, they caused huge economies to collapse and endure great loss. The reasons were as followed: Initial Triggers On a general note, the global financial crisis began developed its roots in 2007, July, when the US investors started to lose confidence in the values of subprime mortgages, resulting in a liquidity crisis. This lead to the US federal bank adding a notable sum of capital into the financial market but nevertheless, the issue persisted such that by 2008, the stock markets around the world became seriously volatile and subsequently crashed. The Global market braced them for they feared the impending doom that approached them. Questions pertaining to the liquidity of banks, a fall in the availability of credits, and investor skepticism, all had a bearing on global stock markets, where securities bore massive losses throughout 2008 and the early part of 2009. World economies weakened significantly during this time, as credit tightened and international trade suffered. Governments and central banks reacted with extraordinary fiscal stimulus, widening of monetary policy, and institutional bailouts. It was at this time that the American Congress passed the American Recovery and Reinvestment Act of 2009. The reason why the housing market in the US collapsed was because many home owners who had utilized the subprime loans now found it difficult to recover from their debts. Banks had previously and encouragingly given loans to people without looking at their previous credit history and this reason, together with the others led to the crisis in the banking industry. To add to the misery of the banks; the lands on mortgages, worth lesser now than when they were given out on loan originally. A credit crunch was observed because one on hand, the banks had a liquidity crisis and on another, the notion to give and lend money became absurd for them. Many economic experts point the fact that the credit crunch however did not in its very entity trigger the financial crisis. For they say that it majorly took its form because of weak structure and improper regulations when it came to lending and receiving money (Llewellyn, 1999). Market uncertainty emerged in one form or another and worsened the given situation for the leading stakeholders involved. An unrelated concern was observed over the quality instruments and their respective long term feasibility and therefore, a severe form of volatility was observed in the market. This lead to a loss of confidence by the investors in some banks and markets and accordingly, they pulled out of the situation presented before them leaving the banks to deal with the situation alone. Trade liquidity became a serious issue for most and trade collapsed as for not being conducted properly at the given nominal prices. Interest rates rose and crossed its limits like never before in inter-banking. In short, things worsened one after another and the banking industry found itself in chaotic situations likewise. The case of the Lehman Brothers The situation worsened when the Lehman Brothers became bankrupt and therefore, a new phase began in the financial crisis situation worldwide. With the Lehman Brothers and their downfall, the notion that banks and bankers are invincible no longer held true and quickly, fear caused all the other banks to inject huge capitals and invest in themselves to stop the domino effect that was becoming quite obvious. The crisis took its toll on not only U.S, but other governments as well who struggled to secure their institutions from the same fate while the housing and the stock market collapsed around them. But obviously, the trust banks had in governments that it will save them no matter what evaporated quickly and soon, the global crisis officially commenced. The most significant part came on September 14, 2008 was the collapse of Lehman Brothers which opened a new chapter of global financial crisis. The governments all around the world struggled to rescue this giant but they all failed as the fallout from the housing and stock market got aggravated. The U.S. government proposed a $700 billion rescue plan which was not unanimously passed by the members of the US Congress. The members were of the opinion that they will bail this amount to the Wall Street investment bankers for making them stabilize this economic crisis. By the end of September and October 2008 the people started investing heavily in gold, bonds and foreign exchange currencies especially US Dollar and Euro which both seemed a safe alternative for saving instead of investing in housing or stock market (Liverpool, 2011). Attempts to recover At the very same time, the US government proposed a $700 billion rescue plan but wasn’t accepted because the congress blamed the Wall street bankers for the financial crisis that was causing everyone misery. Moreover the general population had lost its trust in stocks and started investing in gold, bond, US dollar and euro currency, considering it a safer alternate to the one currently ailing badly. Efforts were made by other organizational institutions such as Australia, which proposed stimulus packages one after another to overcome the financial crisis situation. At the same time, in January 2009, President Obama proposed to spend $1 trillion federal money to put behind the situation currently presented and to improve the financial conditions. Side by side, the Australian government yet again, offered another stimulus package, proposing to give cash handouts to tax payers and to spend more money on infrastructure projects in the longer haul. Aid from Australia The Australian government, represented by the Prime Minister Kevin Rudd and the treasurer Wayne Swan subsequently delivered the first budget whose main idea was to fight the global inflation. They even promised in October 2008 to guarantee bank deposit and a $10.4 billion stimulus package was offered. This was used to make payments to the seniors, careers and families and with its dates being in sync with Christmas, strong sales were reported because of it by the retailers. They doubled the buyers grant to $14000 for existing homes and $21000 for those which were new. Moreover, the stimulus package helped the automotive industry as many of its investors had retracted, in fear of the financial crisis presented (Nanto, 2009). Australia again presented itself as the helping hand when it offered another stimulus package to improve the economy. This time, they package was generous than ever, offering $47 billion that would go to various industries. They money was proportioned to go for schools, houses; both new and old, repairing and maintaining infrastructure and also included bonuses for every Australian tax payer. Aftermath The overall Impact of the banking crisis While we may perceive that the global crisis only affected at a country level, in reality, it affected people who were not really fluent with the inner workings of the banking system. We know that the US economy slowed down and was continuing to do so, a slide was observed in the housing prices and the credit market. Higher oil prices were observed unlike ever before and the U.S economy fought hard to find its way through the economic turmoil. On the other hand the entire country seemed to halt its plans and waited for the big boom that would destroy their worlds. Families stopped spending and put a stop on their investment plans, so did businesses that stopped recruiting at all. As a result, the GDP fell, and the economic conditions deteriorated, worsening things just like that back in the 1958. The International Monetary Fund estimated that big American and European banks lost in excess of $1 trillion worth on pernicious assets and from bad loans during the period stretching from January 2007 to September 2009. These losses are thought to be valued at a maximum of $2.8 trillion from 2007 to 2010. The losses incurred by American banks were projected to hit $ 1 trillion and those by European banks would reach $1.6 trillion. The IMF estimated that while the American Banks had managed through about 60% of their losses, the British and Eurozone banks were able to get through only 40% of theirs (Puig, 2007). Among the first banks to be affected by the financial crisis was Northern Rock, a medium sized British Bank. Its highly leveraged nature of business resulted in the Bank reaching out for support from the Bank of England. Consequently, investor panic ensured as did a ‘bank run’ the middle of September 2007. While the Spokesman of the Liberal Democrat Treasury beseeched Northern Rock’s nationalization, his calls were ignored at first. In February 2008, the British Government, having been unsuccessful in finding a private sector buyer, gave in to the demand for its nationalization and bank transferred into public hands. Northern Rock’s example proved to be ominous of the problems that was soon beset other banks and financial institutions On the people It is noted that 5.5 million jobs were lost by the end of 2009 due to slower GDP rate and the poor economic conditions due to which wages dropped and families got affected on the whole. Low wages meant lower budgets for those who couldn’t manage their finances and hence it led to restraints that caused issues. The employment rate wasn’t very bright leading to the fear among the lot to lose their jobs any second. The poverty rate increased and hence the weaker economic growth plunged thousands of families into poverty that very year. On the stock market Although the signs of an economic meltdown were there, right from 2006; the officials didn’t seem they were as important as the stocks were going high. In 2007, irrespective of the economic crisis, the points were as high as 12500. But after the set of events such as that of the Lehman brothers, the stock market went into a decline by 2008 and accelerated to continue to do so, decreasing its value to 7000 points; until the next four years where it recovered this position and struggled to reach its initial position slowly, working its way up back again and increasing the points by 1000 each year until present (Tong & Wei, 2010). On developing countries Many developing countries in the past that showed steady growth suffered significantly because of something that started right from the Wall Street. Countries like Kenya and Cambodia which were already struggling to grow at a steady rate felt their stock points go low and GDP decline. This again led to a rise in the poverty rate especially in places like Ghana, where people were already fighting hard to survive; things in turn became more troublesome for them. Surprisingly, there were still countries that remained cushioned and unaffected from what was happening elsewhere in the world. The list obviously included Australia, which was funding to improve the financial situation and to ease the banks from loans. Similarly, Saudi Arabia came out unaffected from the entire scenario. The banking crisis of 2008 first impacted the entire U.S. financial sector which eventually got spread to the overseas market. The banking and the insurance industry got a huge impact, after that the mortgage enterprises along with lending and saving sectors got disturbed. The companies which use to rely on financial sector for credit suffered huge losses; all banks stopped giving loans which was required by businesses for regulating their cash flows. Hence the complete cycle got stuck at a point and the businesses stopped working. Several commentators have indicated that should the liquidity crisis continue, there could well be a prolonged stated of recession, or perhaps, even worse implications for the global economy. The unabated crisis had given rise to apprehensions of a global economic crash, although a few years later today, many cautiously optimistic forecasters have spoken more positively in addition to some important sources that are still skeptical (Tong & Wei, 2010). The banking crisis may well have led to the biggest banking shakeout since the savings-and-loan meltdown. According to a projection of investment bank UBS about the year 2008, there would an un-doubtable recession, with scarce chances of recovery for at least a couple of years hence. But just three days after making this projection on October 6, 2008, UBS stated that there was now a beginning of the end of the financial crisis and that the world had begun to take the required measures to rectify the troubled situation: governments had started capital injections and slashed interest rates to aid borrowers. While these actions had been taken respectively in the United Kingdom and by the world’s central banks, America still needed to establish the UK type systematic injection. Even then, as UBS reiterated that system injection would only help to contain the financial crisis, economically, the worst was yet to happen! UBS quantified the anticipated recession period, projecting that it would last for at least four quarters in the United Kingdom, three quarters in America, and two quarters in the Eurozone (Singh, 2009). Conclusion The Financial Crisis Inquiry Commission arrived at the conclusion that the financial crisis could have been averted had it not been for the rampant short comings in financial regulation and supervision, the stunning failures of corporate governance and risk management at several important financial institutions, a mixture of extreme borrowing, hazardous investments, and the absence of complete transparency by financial institutions, meager preparation and unsteady action by government that contributed to the anxiety and panic, a step-by-step collapse in accountability and ethics, crippling mortgage lending principles, and the mortgage securitization channel, deregulation of byproducts (prominently, credit default swaps), and the failures of credit rating agencies to appropriately price risk (britannica, 2013). Summing up, there are a multitude of reasons to blame the economic downfall but putting aside the reasons, we can say that the consequences took a bad approach and hence started a domino effect resulting in the entire globe getting affected. From Wall Street, the global crises affected countries unlike the preceding years before it and mimicked the 1930’s where they economic crisis beveled just like that in 2007. References Britannica, 2013. The Financial Crisis of 2008: Year In Review 2008. [Online] Available at: http://www.britannica.com/EBchecked/topic/1484264/The-Financial-Crisis-of-2008-Year-In-Review-2008/280411/International-Repercussions [Accessed 28 April 2014]. Broman, K., 2012. The American Recovery and Reinvestment Act of 2009. [Online] Available at: http://www.martin.uky.edu/centers_research/Capstones_2012/Bromann.pdf [Accessed 28 April 2014]. Center, G. E. C. R., 2009. Global Economic Watch: Impact on Economics. s.l.:Cengage Learning. Clowers, A. N., 2013. 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