Global Financial "Crisis"?

[Tuomas]

Oh well, at least they gave the appropriate days time for the big investors to sell their share of the stock and to save their moneys.

[miguel]

Imagine if:
There will be a time when about 100 groups/companies own all the money there is, and then, they just may think, why don't we get a place for us (say Nevada) and live happily forever with all the luxury and comfort? Build a barricade, surround it with rocket launchers and let the rest of the world  without oil and electricity? Why not? We can do it, we really don't care about the others!

All it takes is a charismatic figure and lots of money.

[Stupot, I didn't delete mine so you should post yours out of sympathy.]

[Pumaman]

As any parent of small children knows, when your kid gets hurt you don't just lecture them on how they shouldn't have been playing with steak knifes or whatever, you take them to the hospital. The attitude of some in the US and UK is "they made this mess, let the bankers suffer" but of course its not that simple.

Well, the reason Lehman was allowed to go bust was simply because it didn't take deposits from savers, so there wouldn't be a big outcry from the populace if all their savings suddenly vanished. The other banks are in a position where governments can't afford to let them go under, or the general public would probably start to riot about losing all their savings.

The danger is that by bailing out these banks, they won't learn their lesson and they'll make the same mistakes all over again... which is why we need to ensure that they suffer some form of punishment.

I heard on the radio this morning that in the US, banks were giving people mortgages for homes without even checking their credit or source of income.

These "celf-certification" mortgages were common in the UK too, and banks were even encouraging people to take out mortgages that they couldn't afford.

I think the blame for this situation lies in three places:
1. The banks giving out loans to people who were obviously not in a position to be able to repay them
2. People accepting these loans, despite knowing that they wouldn't be able to afford to pay them back
3. Governments (especially in the US and UK) leaving interest rates far too low for far too long, which lead to a rapid increase in house prices as people started to think they could afford bigger mortgages than they really could

In the end, what goes around comes around and it looks like the system is finally starting to correct itself now. Personally I'm glad house prices are finally falling as they had become way out of reach for most people, and hopefully if the banks keep their strict lending criteria going house prices will continue to fall back to a more reasonable level.

My old man has had to lay off half of the workers in his brickmaking factory because nobody is buying houses, so nobody is bulding houses so nobody is buying bricks... Those good men have certainly noticed the difference.

This sort of short-sightedness by the house building companies is quite ridiculous. People still need houses, the population is still increasing. But because mortgages are likely to be hard to get for the next year or so, these companies completely give up on building anything ... which means that when the financial system does sort itself out, suddenly there'll be another housing shortage because nothing got built for a couple of years.

[Shane 'ProgZmax' Stevens]

3. Governments (especially in the US and UK) leaving interest rates far too low for far too long, which lead to a rapid increase in house prices as people started to think they could afford bigger mortgages than they really could.

This in particular is the heart of the matter for anyone well versed in economics.  I'm not sure how it came to be in the UK (Parliament fixes a low interest rate?) but here the Fed inflates the currency to make it seem as though there is more money around, making interest rates artificially drop.  It's artificial because the money they are printing has lost value for the simple fact that the more of something you have the less it's worth.  With all these new dollars out there, though, banks and real estate brokers are encouraged to drop their interest rates down to levels that are unrealistic given the economic climate, which encourages mal-investment.  This trend has been happening over and over in this country since the Fed was established and will not end until the companies responsible for creating the mal-investment are forced to take direct responsibility for it, both financially and personally.  Obviously, governments are now in the business of bailing out bad policy and bad business, so the cycle will continue for awhile yet until there's a total collapse of the system itself (or the people just get tired of policymakers trying to protect the jobs of special interest groups).

Oh, and:

As any parent of small children knows, when your kid gets hurt you don't just lecture them on how they shouldn't have been playing with steak knifes or whatever, you take them to the hospital. The attitude of some in the US and UK is "they made this mess, let the bankers suffer" but of course its not that simple.

This is the kind of naive view that got us into this mess in the first place.  Bankers are not children, though they play with your money like it's Monopoly money and make bad investments.  Not allowing the market to adjust by liquidating bad debt and closing companies responsible is propping up the very system that caused this, so no, you don't throw more money at them and say 'there there, son, it'll be alright'.  They certainly wouldn't throw any money your way if you were in their position because it's business. 

The banking business (or any business) has absolutely 0 to do with your analogy.

[Snarky]

Well, ProgZ, how about "cutting off your nose to spite your face"?

Making sure that the various Wall Street companies pay for their mistakes is certainly something we should strive for. In the long run, it's important to make sure we don't privatize the profits and socialize the risks of financial speculation. However, as in many other things in life, you have to weigh your priorities, and it's not at all obvious that at this moment, guarding against moral hazard is more important than making sure the whole system doesn't collapse, causing major collateral economic damage to people and businesses that had nothing to do with the current mess. That's certainly the view taken by a great many people who are very well versed in economics. (Although a number of economists disagree about the specific measures taken in the rescue plan.)

We have to recognize that there really is such a thing as "too important to fail." The long-term response to that situation should be either (1) split the company up into more manageable pieces, (2) impose regulation to force the company to be more risk-averse, or (3) the government, in recognition of the fact that it will bail out the company if it ever screws up completely, should be given equity so that tax payers also get a share of the profits during good times.

I don't think your little lesson on economics makes a whole lot of sense, either. Increased inflation typically leads to higher interest rates, not lower ones. (Banks know that if they lend you money now and you pay it back in a year, the same sum will be worth less by that time, so they increase interest rates to maintain their profit margin.)

Finally, a major cause of the economic crisis that hasn't been brought up so far is the trade, and subsequent speculation, in bad debt. There was a time when, if a bank gave you a mortgage, they would sit on that loan until you paid it back, so it was in their interest to make sure you wouldn't default on the money you owed them. So they didn't write loans to bad credit risks. Then, clever finance people figured out that you could buy and sell loans (or, more precisely, the right to collect on them). Banks could give you a loan, and immediately unload it on someone else. If you failed to pay up, it wouldn't be their problem. Still, no one's gonna pay much for a risky loan, so this wasn't very good business for the banks.

Then, some even more ingenious finance guys realized that risky loans (subprime mortgages etc.) would be worth more if you took thousands and tens of thousands of them and bundled them all together. Even if some of them defaulted, the high interest rates earned on the others would make up for it. Then you could sell shares in the whole package to a variety of investors at a pretty price. To squeeze even more cash out of the whole deal, these Wall Street wise guys created "tranches" of bonds (essentially, the order in which people will get paid). Since the people in the higher tranches would be the first in line to get any money from any of the borrowers, they were (supposedly) almost guaranteed to get their money back, so those bonds were graded as AAA, very reliable investments, which made them much more valuable.

Through wizardry (or "sophisticated financial instruments," if you prefer) like this, the industry was able to transform risky mortgages into what appeared to be very safe investments. As a result, demand for all these "credit products" shot up, and suddenly there was a booming market in bad debt. Naturally, banks and other credit institutions were happy to provide, and started writing mortgages for anyone with a pulse. As long as the housing market was booming, everyone made money hand over fist, but when the housing bubble burst and people started defaulting on their loans by the billion, the whole house of cards came tumbling down. Investors who thought they'd bought ultra-safe AAA bonds found themselves sitting on worthless shares in a gigantic Ponzi scheme. Cue current crisis.

Trade in debt is a genuinely clever idea, and in principle it leads to a more stable and efficient market. The basic problem in this case was that Wall Street got ahead of itself in creating new, complex investment types, which people didn't fully understand, and could only guess the value of based on complicated computer models of risk. Because of all the levels of abstraction and indirection, it wasn't as obvious as it should have been that there was a massive risk unaccounted for in the models.

If nothing else, this will be an object lesson to risk managers. The trade in debt won't stop, but we'll see more conservative credit ratings and more cautious valuations. That's a good thing. Wall Street will no doubt screw up again at some point in the future, but the next crisis will be probably about something else they got wrong.

[bicilotti]

I don't think your little lesson on economics makes a whole lot of sense, either. Increased inflation typically leads to higher interest rates, not lower ones. (Banks know that if they lend you money now and you pay it back in a year, the same sum will be worth less by that time, so they increase interest rates to maintain their profit margin.)

Interest rates are decided by Central Banks (BCE, FED), not by "private" banks.
When the Central Banks rise the interest rate, it becomes more difficult/expensive to obtain a loan; so to speak "money gets expensive".
The more money is "scarce", the more valuable it is; the more valuable it is, the less inflated it gets (because people are more willing to trade many goods for it).

[Mr Flibble]

Running out of money is a side-effect of trading in pretend money.

[Stupot]

Apparently these people are feeling the pinch aswell.

[Pumaman]

I'm not sure how it came to be in the UK (Parliament fixes a low interest rate?) but here the Fed inflates the currency to make it seem as though there is more money around, making interest rates artificially drop.

I'm not sure what the Fed's policy is for setting rates, but in the UK the Bank of England is charged by the government with setting interest rates in order to keep inflation as close to 2% as possible. However, because the government defines "inflation" as being the cost of consumer goods and services (ie. not mortgages), over the last 10 years the abundance of cheap imports from China and the far east has lead to consumer inflation being very low -- and thus interest rates have been kept low to match; meanwhile house prices have been rocketing out of control and nobody was doing anything about it.

I don't understand how having low interest rates would artifically inflate the currency -- as Snarky says typically a currency gets stronger when its interest rates rise (because investors see better returns by putting all their savings into that currency, thus the demand for the currency increases).

Bankers are not children, though they play with your money like it's Monopoly money and make bad investments.  Not allowing the market to adjust by liquidating bad debt and closing companies responsible is propping up the very system that caused this, so no, you don't throw more money at them and say 'there there, son, it'll be alright'.  They certainly wouldn't throw any money your way if you were in their position because it's business. 

But the point is that if we allowed the banks to go bust and get their just desserts, normal people would lose their life savings, and it could start a chain reaction in which other banks that were owed money by the bankrupt bank then become bankrupt themselves because they can't get their money back. So just leaving it up to the market isn't really an option here.

Finally, a major cause of the economic crisis that hasn't been brought up so far is the trade, and subsequent speculation, in bad debt.
Through wizardry (or "sophisticated financial instruments," if you prefer) like this, the industry was able to transform risky mortgages into what appeared to be very safe investments.

This is a very good point, and is probably the major factor that kicked off this situation.

The thing I don't understand is that these sub-prime mortgages haven't suddenly become worthless overnight ... as long as most of the people can still afford their repayments then there's no problem. As long as they don't lose their jobs and interest rates don't rise then there's no reason for them to stop making repayments, and the whole thing should just sort itself out, right?

[Snarky]

I don't think your little lesson on economics makes a whole lot of sense, either. Increased inflation typically leads to higher interest rates, not lower ones. (Banks know that if they lend you money now and you pay it back in a year, the same sum will be worth less by that time, so they increase interest rates to maintain their profit margin.)

I guess what you said doesn't directly contradict this, either. After all, you are arguing that the Fed is screwing up the economy.

Interest rates are decided by Central Banks (BCE, FED), not by "private" banks.
When the Central Banks rise the interest rate, it becomes more difficult/expensive to obtain a loan; so to speak "money gets expensive".
The more money is "scarce", the more valuable it is; the more valuable it is, the less inflated it gets (because people are more willing to trade many goods for it).

The Central Bank cannot decide what banks are going to charge in interest, that's each private bank's decision. It can only influence, not directly set, these interest rates. In fact, the Central Bank sets interest targets, then uses monetary policy to get banks to change their interest rates towards that target. While the rate charged on loans from the Central Bank is one part of that policy, the Central Bank also employs other tools.

Another way to explain the effect of interest rates on inflation is to say that lower interest rates encourage people to borrow money and spend it on all kinds of things (new car, new house, expand their businesses, etc.). This increase in demand then causes prices to rise, and a general price rise = inflation.

But the point is that if we allowed the banks to go bust and get their just desserts, normal people would lose their life savings, and it could start a chain reaction in which other banks that were owed money by the bankrupt bank then become bankrupt themselves because they can't get their money back. So just leaving it up to the market isn't really an option here.

Actually, in the US at least, bank deposits up to $100,000 per account are federally insured through FDIC, so even if a bank goes bust, people aren't going to lose their savings.

The thing I don't understand is that these sub-prime mortgages haven't suddenly become worthless overnight ... as long as most of the people can still afford their repayments then there's no problem. As long as they don't lose their jobs and interest rates don't rise then there's no reason for them to stop making repayments, and the whole thing should just sort itself out, right?

Near as I can tell, it's a combination of three factors: (1) Really an epidemic of foreclosures. You have to realize how insane many of these loans were: they would be cheap for the first year or three, then the interest rate might suddenly triple. Also, some of the people taking out the mortgages may not even have had jobs; so-called "liar loans" involved no background check whatsoever. And of course you have the large number of jobs that have been lost over the last few years, and the fact that nervous banks are raising interest rates on other mortgages, pushing more people over the brink. (2) Due to (1) and the collapse of the housing bubble, the amount of money that can be recovered through a foreclosure has fallen, because houses put up for auction don't sell, or sell for lower sums than they would otherwise have gone for. (3) A market panic around the whole class of assets means that no one wants to buy them, so they're almost impossible to unload. Even though they might be worth money in the long term, they're next to worthless in the short term. Because companies have borrowed money using these assets as collateral, they may find themselves unable to pay when their loans come due. Saying "we could make money on them if we held on to them for another five-ten years" doesn't help you if you can't pay your creditors today.

That's why the government buying up some of this "toxic debt" is not entirely a handout to Wall Street. Someone who can afford to hold on to the investment for long enough, which the government can, might not actually lose a whole lot on the deal.

[DanielH]

This here, this is what it's about.

[Dave Gilbert]

My parents lost about 50 grand in the stock market in just a few days, so yes I'd say there's definitely a problem.  They are debating whether they should take the money out or hope for things to turn around. 

[Andail]

I think my family has lost around 50 000 euros in stocks so far, and I'm getting real problems getting a reasonable loan, now that I'm about to buy a condo.

I think the bailout packages are probably good as a short term rescue. However, I'm ideologically opposed the method, since it fuels a fundamentally flawed system. This is the backside of capitalism. It's bound to bubble and burst in cycles.

[Ryan Timothy B]

I've probably lost $2,000 (nothing compared to what you've been talking about.  But it's enough to put a dent in my savings).  Damn you mutual funds!  Damn you.

[Sam.]

Just to let everyone know ahead of the game, I'm setting up a new Currency, called SamDollars. It is not based on stocks or the gold standard, rather the much more stable, "what i have in my room" standard. Thus on SamDollar is worth 0.00000001 American Dollar. The obvious benefit being that What i have in my room is only going to get MORE valuable over time, and I am out of known disaster areas, so a Sam Market crash is unlikely.

I am Selling them at this exhange rate and will happily take orders from AGS members.

[Matti]

...more valuable, you say?
...mh...
...out of desaster areas....
...mh...
...much more stable, eh?

Count me in. I'll buy every SamDollarâ,,¢Â© you have.

[Nacho]

Let' s hope everybody sees Christodollars as a a secure currency and Christopia becomes as rich as Cayman Islands...

[Ishmael]

..but the currency of Christopia is The Roger. And things are looking pretty grim for the Christopian economy if the dollar's going down...

[Michigami]

you know, my gramma's 91, and managed to survive the last big financial doom the US had pretty well, even with a laid-off coal miner husband and two kids.  no matter how bad it gets, anything is survivable, it just takes a lot of hard work.  in my area the economy's been bad since the 80's, and it's a rural area. there are people who will break into people's houses while they're not home and steal the pipes and wiring from their houses to sell for scrap metal, along with anything else they can find. 

and the worst thing is that this country's done it all to itself, there's no one else to blame this time, but we're not alone in the trouble.  it's a wartime economy already in the world, thanks to a trigger-happy texan who shall remain nameless.  things will get much worse before they begin to get better, and people DO need to be more self-reliant and stop expecting the government to be there ready to wipe our noses for us at every turn. 

people have gotten too used to letting everyone else do the work for them, and not keeping track of their own funds until it's too late.

the us is a consumer nation instead of a commercial economy now, most of our industries have been shut down because companies buy from elsewhere in the world for cheaper.


to make what could become a long ranty post short, i'll simply say there's a lot more that needs done other than the tiny bandaid they're trying to patch over the banking and lending industries if we're going to survive this mess.

[Pumaman]

My parents lost about 50 grand in the stock market in just a few days, so yes I'd say there's definitely a problem.

I think my family has lost around 50 000 euros in stocks so far

In these cases I would argue that nobody has really lost anything. Share prices, like house prices, have a habit of rising year on year; but because they rise faster than inflation, there tends to be a correction every now and then when the prices come back down to earth a bit ... and now is simply one of those times.

The stock markets are just in a dip at the moment, and undoubtedly in a year or two's time will be back up with record highs once more.

I only wish I knew how to buy shares so that I could have snapped up loads of HBOS, RBS and other bank shares yesterday, and sold them on in a year's time for mega profits

Though actually, this is effectively what the UK Government has just done today by announcing that the state is going to buy a large number of bank shares in order to inject capital into the banks, and hope that the share prices have risen again in a couple of years so they can be sold off and taxpayers walk away with a profit. Seems a bit of a risky thing to do with taxpayer's money, though.