international finance 120181-1165 the financial crisis 2007-2009

International finance 120181-1165

The financial crisis 2007-2009


Lecture outline

Definitions

The origins of the crisis

Possible explanations of the crisis- empirical evidence

Preventing financial crises


Financial crisis- definition

Powerful shocks within the financial

system which trigger a decrease or a

deepening of the already ongoing

production decrease


Stock market crunches

Rational expectations

Growing productivity- assumptions

Behavioral finance


Stock market crunches

The source of speculative purchases Loans- payback constraints Influence on domestic demand


Speculative bubbles

Growing deviation of the present values

of prices/ER from their theoretical values

till the moment of price collapse


Banking crises

The willingness of banks to grant loans Information concerning the situation of

enterprises Moral hazard Negative selection of the borrowers


Banking crises

„Toxic debt”

The solvency of the banks

Financial accelerator Credit amount expansion


Currency crises

Will the CB be able to maintain the ER? 3 generations of currency crises 1 generation- Krugman 2 generation- Obstfeld 3 generation- eclectic model


Currency crises

Banking supervision Official foreign reserves shifts The development of financial markets


Speculative attacks

Speculation against fixed ER

The mechanism of the attack

The consequences of the attack

Example: speculative attack on GBP in

1992


The origins of the crisis 2007-2009

Excessive CA deficit in the USA

Twin deficits in the USA

Issuance of governement bonds- main

purchaser- China



Expansionary monetary policy of the FED

Law level of i%

Low credit costs


Expansionary monetary policy of the FED



Petrodollars as a source of global liquidity Supply shocks on the oil market Inflationary impulses i% increase

difficulties to pay back loans

Decrease of real estate prices



Speculative bubble

on the US housing

market



International banking deregulation

Non- banking institutions- no regulation

Subprime loans

Adjustable rate mortgages

Mortgage backed securities

CDO

Credit risk swap



Financial innovations

Leverages

New risk management techniques



The collapse of the bubble immediate

real estate prices decrease

Large losses in the financial sector

Housing market crunch banking crisis

economic crisis



Credibility crisis on the banking market

Liquidity crisis

Insolvency menace of numerous

institutions

FED rescue plans



Global unequilibrium

Financing US investments from foreign

savings global financial crisis


The effects of the crises

Decrease of i% by many CB

CB actions coordination- market signaling

Expansion of the crisis into the real economy


The effects of the crises

The spread between LIBOR and the FED

reference i%

Paulson plan

Rescue plans in Europe


From stock market crunch to debt crisis

Reinhart, Rogoff 2010

Debt as a signal of banking crises

Governements fuelling credit booms

Banking crises as a signal of debt crises

Hidden debt as accelerator


The governement’s and CB’s actions

Taylor 2009

The expansionary monetary policy of the FED as the main reason

for the crisis

Global saving glut ???

What prolonged the crisis?


„No boom no bust”

• Source: Taylor, op. cit


Global saving glut???

Source: Taylor, op. cit


What prolonged the crisis?

Lack of liquidity?

Credibility crisis?

Risk premium explaning the spread between

LIBOR and the reference i%


The excessive/insufficient regulation paradox

Aizenman 2009

Regulation thresholds

Dependence of the regulation strictness

on the length of the period without a crisis

Regulatory behaviour

2 paradoxes


The excessive/insufficient regulation paradox

Possible solutions

Information disclosure

Independence of regulatory authorities

Regulation centralization

Global standards


Early warning indicators

Frankel ,Saravelos (2010)

Explainig the crises with several

economic values fluctuations

Past ER developments

The level of foreign reserves


Behavioral finance

Szyszka (2009)

An alternative approach to financial markets analysis

Mistakes of market participants

Psychological aspect


Behavioral finance

Gready investors

Risk underestimation

Herding

Limited rationality

Mistakes of rating agencies


Preventing financial crises

Preventing the occurence of bubbles

Preventing banking crises

Preventing currency crises


Summing up

The definitions and elements of the financial

crisis

The origins of the fiancial crisis 2007-2009

The role of the governements, CB and

regulatory authorities

Changes in financial supervision


Summing up

Behavioral approach to the crisis

Financial market psychology

Preventing crises


References

A. Sławiński, Rynki finansowe, PWE, Warszawa 2006 P. Krugman, M.Obstfeld, International economics: theory and policy, Pearson,

Addison Wesley, Boston 2009,

J. A. Frankel, G. Saravelos, Are Leading Indicators of Financial Crises Useful for Assessing Country Vulnerability? Evidence

from the 2008-09 Global Crisis, NBER Working Paper No. 16047, Cambridge 2010,

J. Aizenman, Financial Crisis and the Paradox of Under- and Over-Regulation, NBER Working Paper No. 15018, Cambridge 2009,

J. B. Taylor, The Financial Crisis and the Policy Responses: An Empirical Analysis of What Went Wrong, NBER Working Paper No. 14631, Cambridge 2009,

C. M. Reinhart, K. S. Rogoff, From Financial Crash to Debt Crisis, NBER Working Paper No. 15795, Cambridge 2010

A. Szyszka, Behawioralne aspekty kryzysu finansowego, Bank i Kredyt 40 (4), Warszawa 2009

international finance 120181-1165 the financial crisis 2007-2009

Documents

international finance

fed slide

expansion slide

financial crises

domestic demand slide

us housing market slide

moment of price collapse

financial innovations