Global financial crisis during 2008-2010
Introduction
The financial crisis of 20072008, also known as the Global
Financial Crisis and 2008 financial crisis, is considered by
many economists the worst financial crisis since the Great
Depression of the 1930s. It resulted in the threat of total
collapse of large financial institutions, the bailout of banks by
national governments, and downturns in stock markets
around the world. In many areas, the housing market also
suffered, resulting in evictions, foreclosures and prolonged
unemployment. The crisis played a significant role in the
failure of key businesses, declines in consumer wealth
estimated in trillions of U.S. dollars, and a downturn in
economic activity leading to the20082012 global
recession and contributing to the European sovereign-debt
crisis. The active phase of the crisis, which manifested as
a liquidity crisis, can be dated from August 9, 2007,
when BNP Paribas terminated withdrawals from three hedge
funds citing "a complete evaporation of liquidity"
Consequences
1. Collapse of large financial institutions
2. downturns in stock markets around the world
3. housing market also suffered.
4. prolonged unemployment and declines in consumer wealth.
5. Global recession and contributing to the European sovereign-
debt crisis
Premises
1. The bursting of the U.S. housing bubble (caused the values
of securities tied to U.S. real estate pricing to plummet).
2. providing easier access to loans for (lending) borrowers.
3. overvaluation of bundled subprime mortgages based on the
theory that housing prices would continue to escalate.
4. questionable trading practices on behalf of both buyers and
sellers.
5. a lack of adequate capital holdings from banks and
insurance companies to back the financial commitments
they were making.
Causes
1. Dramatic failures of corporate governance and risk
management at many systemically important financial
institutions.
2. "a combination of excessive borrowing, risky investments,
and lack of transparency" by financial institutions
3. ill preparation and inconsistent action by government that
"added to the uncertainty and panic.
4. a "systemic breakdown in accountability and ethics,
collapsing mortgage-lending standards and the mortgage
securitization .
Subprime lending
During a period of intense competition between mortgage
lenders for revenue and market share, and when the supply
of creditworthy borrowers was limited, mortgage lenders
relaxed underwriting standards and originated riskier
mortgages to less creditworthy borrowers
5. Growth of the housing bubble
Between 1997 and 2006, the price of the typical American
house increased by 124%. During the two decades ending in
2001, the national median home price ranged from 2.9 to
3.1 times median household income. This ratio rose to 4.0 in
2004, and 4.6 in 2006. This housing bubble resulted in many
homeowners refinancing their homes at higher interest
rates, or financing consumer spending by taking out second
mortgages secured by
the price appreciation.
6. Easy credit conditions
Lower interest rates encouraged borrowing.
7. Weak and fraudulent underwriting practices
Testimony given to the Financial Crisis Inquiry
Commission by Richard M. Bowen III on events during his
tenure as the Business Chief Underwriter for Correspondent
Lending in the Consumer Lending Group for Citigroup (where
he was responsible for over 220 professional underwriters)
suggests that by the final years of the U.S. housing bubble
(20062007), the collapse of mortgage underwriting
standards was endemic.
8. Predatory lending
Predatory lending refers to the practice of unscrupulous
lenders, enticing borrowers to enter into "unsafe" or
"unsound" secured loans for inappropriate purposes. A
classic bait-and-switch method was used by Countrywide
Financial,
9. Deregulation
10. Increased debt burden or over-leveraging
Prior to the crisis, financial institutions became highly
leveraged, increasing their appetite for risky investments
and reducing their resilience in case of losses.
11. Financial innovation and complexity
The term financial innovation refers to the ongoing
development of financial products designed to achieve
particular client objectives, such as offsetting a particular
risk exposure (such as the default of a borrower) or to assist
with obtaining financing. Examples pertinent to this crisis
included: the adjustable-rate mortgage.
12. Incorrect pricing of risk
The pricing of risk refers to the incremental
compensation required by investors for taking on
additional risk, which may be measured by interest rates or
fees.
13. Boom and collapse of the shadow banking system
There is strong evidence that the riskiest, worst performing
mortgages were funded through the "shadow banking
system" and that competition from the shadow banking
system may have pressured more traditional institutions to
lower their own underwriting standards and originate riskier
loans
14. Commodities boom
Rapid increases in a number of commodity prices followed
the collapse in the housing bubble. The price of oil nearly
tripled from $50 to $147 from early 2007 to 2008, before
plunging as the financial crisis began to take hold in late
2008.
15. Systemic crisis
is that the financial crisis is merely a symptom of another,
deeper crisis, which is a systemic crisis of capitalism itself.
Effects on the global economy
1-Real gross domestic product
The output of goods and services produced by labor and
property located in the United Statesdecreased at an
annual rate of approximately 6% in the fourth quarter of
2008 and first quarter of 2009, versus activity in the year-
ago periods. The U.S. unemployment rate increased to
10.1% by October 2009,
2-Distribution of wealth in the US
Typical American families did not fare as well, nor did those
"wealthy-but-not wealthiest" families just beneath the
pyramid's top. On the other hand, half of the poorest families
did not have wealth declines at all during the crisis.
3- Official economic projections
the European Commission at Brussels predicted for 2009 an
extremely weak growth of GDP, by 0.1%, for the countries of
the Eurozone (France, Germany, Italy, Belgium etc.) and
even negative number for the UK (1.0%), Ireland and
Spain. On November 6, the IMF at Washington, D.C.,
launched numbers predicting a worldwide recession by
0.3% for 2009, averaged over the developed economies.
Conclusion
I think without control and link between private and social interests will ethical
issues begin to appear, financial crisis from 2007 to 2010 showed bad non ethical
transaction in financial market, search for private interest only not for social
interest, absent of social responsibility, therefore we suggest
1. The financial industry needs to adopt a laser-like focus on its customers and
their welfare, in any event placing client interests far above the
compensation interests of its executives.
2. The industry needs to eliminate its infamous conflicts of interest, and to
avoid even the appearance of conflicts.
3. Finally, the industry needs to demand ethical behavior across the board from
its executives and employees, even if it is sometimes inconsistent with short-
term profits, and this behavior needs to be both exemplified and enforced by top
executives.
Reference
The Financial Crisis and the Collapse of Ethical Behavior, White Paper No. 44,
(2008).
Question ONE
year Cash Present value of $1 = (1/ Present
Flow (1+r)^n value of
cash
flow
1 10000 0.91 9090.909
2 15000 0.83 12396.69
3 20000 0.75 15026.3
Present value 36513.9
No cash outflow to suggest solution
Question TWO
year Cash Present value of annuity = Present
Flow (1-(1/(1+r)^n))/r value of
cash flow
0 -6500 1 -6500
1-6 1200 4.62 5547.4556
Present value -
952.544403
The project rejected because NPV<0
