The Nature of the Global Financial Crisis - Essay Example

? Briefly describe the nature of the recent Global Financial Crisis (GFC). Suggest policies to address the effects of the GFC on trading nations, using data and examples from one or more countries of your choice. Thesis Statement: The nature of the Global Financial Crisis and its impacts on selected trading country. Introduction The global financial crisis started to show its impacts from the middle of the year 2007. Economists consider the global financial crisis to be the worst scenario after the Great Depression of 1930s (Chari, Christiano and Kehoe, 2008, 1). The stock markets feel around the world. The governments of almost all the nations had to come up with packages that are required to move out from such a situation. The financial crisis will shed its impacts around the globe due to globalization. The livelihood of all people at every corner will feel the heat of crisis (World Bank, 2009). Financial Crisis The collapse of the U.S. housing market regarded as the housing bubble is characterized as one of the prime reason for the situation to arrive. The collapse resulted in surge of mortgage loan defaults (World Health Organization, 2009, 2). The collapse of the real estate market and the subprime mortgage market of the U.S. had the severe effects around the globe. Uncertainties accrued in the financial systems. The creditors involved themselves in pulling out their funds and cashed out securities that were issued by the financial institutions (Jalilian, n.d., 1). These lead to failure of many institutions while others struggled to survive poorly. The loan and credit possibilities from the bank dried up (Baily, Litan, and Johnson, M., 2008, 11). There was a downturn in the share market as investors dumped their holdings. The system lost the confidence. In order to create securitization, the banks started to borrow more money. As long as the banks can pull out money by selling loans on the basis of securities, they did not feel the dependency to rely on the savers (European Commission, 2009, 8). Some of the banks even moved into mortgages. There was pressure from the government to serve the poor and the loans offered to the poor were risky as there was the fear of default (Roitman, 2009). They used to buy the mortgage in order to securitize them and then sell them. Some of the banks started to buy securities as well. This increased the exposure of the banks to risks. When the problem got realized, the process of lending got slowed. Some of the banks were on the verge of the most risky loans which was beyond the intention of the investors. The lenders fell upon to take back their loans. The investment banks fell drastically as they had no or little deposits. The problem got intensified and even the banks with large capital reserves began to feel the pressure. They turned to the government for support. The banks began to feel nervous to loan out the injected money and the shrinking banks sucked money out of the economy. Many economies are (or have been) in recession, technically defined as 2 or more quarters of negative growth or contraction of real GDP, for example the economies of the US, Japan, the Euro area, UK, and New Zealand (but not Australia). Among the other effects include rise in the level of unemployment, rising in the levels of international and domestic debt, crisis in housing and mortgage, failure of key businesses such as automobile industry of U.S., along with various banks and housing lenders. There were downturns in the share market along with declines in the wealth of the consumers. The volumes of international trade and investment declined. There has been some recovery with the assistance of the governments such as stimulatory spending (but often financed by further debt), financial institution guarantees and buyouts, and assistance to industries (but needed to be within the framework of WTO rules and agreements). In order to combat with the situation of fall in confidence it was necessary to inject liquidity into the financial institutions which would serve in their revival. The time called for unlimited and increased level of deposit insurance. The Central Bank also had a role to play. The Central Bank coordinated the reductions in the interest rates and purchased commercial paper and money market instruments (Shah, 2010). The government provided large financial stimulus in the form of tax cuts and increased the spending of the government. The International Monetary fund also came into the picture by providing financial aid to the emerging countries. Many strategists blamed the Wall Street as the prime problem in the first phase of the crisis as the most influential investment banks as well as institutions are based in that country. The crisis became so severe that the administration had to offer a bailout plan of 700 billion dollars for the financial system of the country (Cook, 2009). The financial crisis also shed its effects on the developing world. The price of foods started to rise in the developing world as well as some other knock-on effects resulted from the instability in the financial market and the emerging uncertainties had a compounding effect on the economies of those countries. The core problem behind financial crisis is a sudden change of the surprises that brings temporary changes in the rules of the game. The shock may come of the factors that was anticipated like the housing bubble burst but the crisis takes place when the shocks moving through the complex networks produces an unexpected outcome (United Nations, 2009, 1). It is not enough for the economic agents to invest time in finding the root of the problem as a series of systematic events will pull up linkages that was unexpected and distant. The surprise has the potential to turn risk into uncertainty and it is the natural behavior of all to withdraw their assets. A panic gets injected into the system and triggers the asset sales as well as activates the financial multipliers (Caballero and Kurlat, 2009, 32). Policies to address the effects of the GFC The policies to address the effects of the financial crisis can be categorized into three basic principles. The first principle calls for corporative actions the nations. The current crisis is on the path to exceed the crisis of oil in depth and extent and so the time calls for all the nations to come together and face the existing challenges. The second principle takes into account the actions that are suited to various economic phases. The third principle asks to take a comprehensive approach over horizons of time. The specific measures include measures that aim to support employment. In this measure emphasis is put on emergency employment opportunities that will create new jobs and provide a safety net for the casual workers. The supports that can be provided by the government are increasing the level of subsidies or unemployment benefits. The government can also lend its hand to support re-employment and provide opportunities that will help to develop the vocational skills of the labor force. The support system should also include the persons with disabilities. Among the financial measures the policies includes promoting the financial intermediary services for smooth functioning, to bring the small and medium sized enterprises under the financial support systems, the support system should also consider the large and medium sized companies. The stock market needs the support of the government financially (Government of Japan, 2009, 9). The countries which are rich in resources experienced rapid growth in the periods prior to the crisis. It has been argued that these countries seemed to suffer the most as a result of financial crisis due to deterioration in trade. There was a shrink in global demand and the prices of most commodities took the declining curve. The countries dependant on exports as a result was losing precious foreign exchange. Such losses had huge impacts on the economy. According to the International; Monetary Fund a 1% slowdown in growth can lead to 0.5% point slowdown for the sub-Saharan countries. (N'zue, n.d., 51). It is evident from the figure that the rich countries experienced a sharp drop in the exports of services as well as goods from the period of 2008-2009. It was expected that the countries will bring themselves up into the phase of recovery but such recovery process has not mitigated the effects of the crisis. These countries are actually in worse off situation than their situation prior to the crisis. The countries tightened the credit availability which in turn had significant effects on trade finance as well as other types of capital flows to the developing countries. Angola is an oil producing country. So it is likely that the revenues of the government should be affected due to decline in the prices of oil. The country experienced a sharp decline in trade in 2008-2009. In the country of Sudan, almost 65% of the revenue of the government and almost 90% of the exports is accounted by oil. The decline in the exports of oil will definitely shed its effects on investment possibilities and expenditures on social expenditures will be at risk. This will affect the health and education sectors. The negative effects of the shocks in trade in broaden the deficits in current account of the commodity exporters but the pace of the broadening process will be slower. Constraints on the external accounts will also be created. (N'zue, n.d., 52). It is evident from the above figure that the countries which are rich in resources experienced deterioration of the balance of external account from the years of 2007 to 2009. Although the countries like Angola and Nigeria were expected to mitigate their loss in the year 2010 as the prices of oil started to rise but it is highly unlikely for other nations as they are still exposed to the depression and are no showing no signs of recovery. (N'zue, n.d., 52). Similar kind of movement was also observed in fiscal balance. It can be summarized that the crisis has underscored the need for diversification of exports for the countries under consideration in reestablishing the flexibility of the economies to shocks from external factors. In Burkina Faso, the growth in export suffered a drop of around 6% in the year 2008 compared to that of 2007. The fall in price of cotton can be held responsible for this. There was deterioration in the balance of trade because of the combined effect of production in agriculture and decline in the export of lint cotton (Kasekende, Ndikumana and Taoufik, 2009, 36). The crisis also intensified the food crisis as well. The depreciation of the local currencies against the foreign ones led to the rise in cost of imports of food and large deficits in the trade of food were recognized. The steps taken to subsidize the prices of food and oil have proved to be unsustainable as the revenue of the government was low and exchange reserves were falling. In the country of Kenya, the total usable reserves declined from over 5 thousand million dollars to around 4.5 thousand million dollars in a matter of six months. In the month of February of the year 2009, the local currency of Kenya experienced a depreciation of more than 15% against the dollar (Report from the Committee of African Finance Ministers and Central Bank Governors established to monitor the crisis, 2009). Conclusion In the phases of economic challenges the country of Africa needs to play a more pro-active role and researches need to be undertaken on micro as well as micro stimulations that would have the potential to absorb the external shocks. The crisis situation showed the decision makers that without analysis and research it is hard to identify or fight against such situation when they suddenly arrive. Some of the countries of Africa have shown that the effects of the crisis can be mitigated by quick and targeted measures. The time calls for the planning processes to take effect. There can be different types of targeted measures like fiscal stimulus to the organizations facing the challenges, revision of the budget as well as tariff and non tariff barriers in the short run. Reference Caballero,R., and Kurlat, P., (2009). The Surprising Origin and Nature of Financial Crisis. Retrieved From: http://www.kansascityfed.org/publicat/sympos/2009/papers/caballeroKurlat.07.29.09.pdf. Cook, R. (2009). The Nature of the Current Financial Crisis: The System is designed to exert Total Control over the Lives of Individuals. Retrieved From: http://www.globalresearch.ca/index.php?context=va&aid=13551. Shah, A., (2010). Global Financial Crisis. Retrieved From: http://www.globalissues.org/article/768/global-financial-crisis. United Nations, (2009). The Global Economic and Financial Crisis: Regional Impacts, Responses and Solutions. United Nations publication. 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