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Topic name Introduction of global meltdown 8-year crash cycle of market Pre-recession economic imbalances Causes of global meltdown Effect of global meltdown on world Effect on Indian economy Remedies Conclusion


 A situation in which a rapid rise in the power level of a nuclear reactor, as from a defect in the cooling system, results in the melting of the fuel rods and the release of dangerous radiation and may cause the core to sink into the earth  A decline or breakdown in a situation or condition  Ordered to disordered physical state without loss of material Change of physical location Let us take the example of snow and ice. When snow melts, there is no loss of water. The internal ordering of water is lost in snow and it becomes a liquid. Some work is done by the system with energy inputs for heating. Heat is an input to melting; disorder is the result of melting.

Global Meltdown
 Fed ↓ Interest (Since 9/11)  Mortgages Cheap!!!  Sub Prime Borrowers Flock  Lenders- Collateralized Debt Obligations (CDO)  Sell to IBs / Banks / Funds

Meltdown Continues?
 Sub-Prime

> 800 BLN > 1 TRLN

ALT-A Undisclosed

 Flexible Option Mortgage = 122 BLN OUT= Rest


The financial crisis of 2007–2009 has been called the most serious financial crisis since the Great Depression by leading economists, with its global effects characterized by the failure of key businesses, declines in consumer wealth estimated in the trillions of U.S. dollars, substantial financial commitments incurred by governments, and a significant decline in economic activity. Many causes have been proposed, with varying weight assigned by experts. Both market-based and regulatory solutions have been implemented or are under consideration, while significant risks remain for the world economy. In the years leading up to the start of the crisis in 2007, significant amounts of foreign money flowed into the U.S. from fast-growing economies in Asia and oil-producing countries. This inflow of funds


made it easier for the Federal Reserve to keep interest rates in the United States too low from 2002–2006 which contributed to easy credit conditions. economy is in the state of 4 . Recession  A recession is a contraction phase of business cycle  National bureau of economic research(NBER) is the official agency in charge of declaring that the recession.



the first of many price milestones to be passed in the course of the year. • In July 2008. Some believe that this oil price spike was the product of Peak Oil. • These high prices caused a dramatic drop in demand and prices fell below $35 a barrel at the end of 2008. dollar volatility and public deficits. rose so high as to cause genuine economic damage. threatening stagflation and a reversal of globalization. oil prices surpassed $100 a barrel for the first time. The decade of the 2000s saw a global explosion in prices. In 2008. • In January 2008.30 a barrel and a gallon of gasoline was more than $4 across most of the U. copper production and bioethanol production) increased in price 3. oil peaked at $147.5-fold in less than 1 year while 7 . leading to negative household savings and a huge US trade deficit. the prices of many commodities.A. a focus can be made on the following ones: Commodity boom Further information: 2000s energy crisis and 2007–2008 world food price crisis.S. focused especially in commodities and housing. 2008 Central Asia energy crisis and 2008 Bulgarian energy crisis. marking an end to the commodities recession of 1980-2000. There is concern that if the economy was to improve. oil prices might return to pre-recession levels. • The food and fuel crises were both discussed at the 34th G8 summit in July 2008 • Sulfuric acid (an important chemical commodity used in processes such as steel processing.Among the various imbalances in which the US monetary policy contributed by excessive money creation. notably oil and food.

8 .producers of sodium hydroxide have declared force majeure due to flooding. • In the second half of 2008. precipitating similarly steep price increases. the prices of most commodities fell dramatically on expectations of diminished demand in a world recession. Housing bubble UK house prices between 1975 and 2006.

agricultural failure. there's a little 'froth' (in the U. and that domestic inflation was at 10-20 year highs for many nations.Real estate bubble By 2007. went further. saying "the worldwide rise in house prices is the biggest bubble in history. Italy. growth surge supported by easy monetary policy in Asia. Baltic states. Croatia. U." have been named as possible reasons for the inflation 9 . monetary easing by the Fed to tame financial crisis. Singapore. Argentina. housing market) … it's hard not to see that there are a lot of local bubbles". speculation in commodities. Finland. Norway.S. especially in the United States. Spain. France. Reuters reported that global inflation was at historic levels. Romania. Russia. South Korea. Federal Reserve Chairman Alan Greenspan said in mid-2005 that "at a minimum. Sweden. United Kingdom. Canada. rising cost of imports from China and rising demand of food and commodities in the fast growing emerging markets. writing at the same time. Israel. Bulgaria. Greece." Real estate bubbles are followed by a price decrease also known as a housing price crash that can result in many owners holding negative equity (a mortgage debt higher than the current value of the property). Australia. South Africa. Ukraine and China.. United Arab Emirates. Netherlands. Inflation In February 2008. New Zealand. The Economist magazine. India. Poland. real estate bubbles were still under way in many parts of the world.S. Ireland. "Excess money supply around the globe.

largely due to the unsterilized growth of foreign exchange reserves. on account of the rise in oil and food prices. the term “unsterilized” referring to a lack of monetary policy operations that could offset such a foreign exchange intervention in order to maintain a country´s monetary policy target. but remained low compared to the developing world. Inflation was also increasing in the developed countries. inflation was also growing in countries classified by the IMF as "non-oil-exporting LDCs" (Least Developed Countries) and "Developing Asia". IMF data indicated that inflation was highest in the oil-exporting countries. Inflation In India • The Wholesale Price Index (WPI) and Consumer Price Index measures the Inflation. • WPI is the measure of headline inflation in India • WPI preferred to CPI -wider commodity coverage available on weekly basis computed at all-India basis 10 . However.In mid-2007.

So in this topic it means from the main and basic causes of global meltdown.TRIGGERING CAUSES: Triggering in general sense means the main.The main causes of global meltdown are: Triggering causes Leading causes I. the basic causes. These causes are as follows: Interest rates Subprime Interest rates: 11 .

the nation's biggest underwriter of home mortgages. In a 2000 United States Department of the Treasury study of lending trends for 305 cities from 1993 to 1998 it was shown that $467 billion of mortgage credit poured out of CRA-covered lenders into low. has been under increasing pressure from the Clinton Administration to expand mortgage loans among low and moderate income people" (NYT. which are government sponsored entities. It is felt by many that this was done to help boost a stagnated home ownership figure that had hovered around 65% for many years. and over-leveraging by banks and investors eager to achieve high returns on capital. some have argued that the Clinton Administration may be partially to blame. into riskier loans. The result was a push by the administration for greater investment.and mid-level income borrowers 12 . In 1995. while others have pointed to the passage of the Gramm-LeachBliley Act by the 106th Congress. The New York Times published an article that reported the Clinton Administration pushed for subprime lending: "Fannie Mae. Some believe the roots of the crisis can be traced directly to subprime lending by Fannie Mae and Freddie Mac. by financial institutions. 30 September 1999). US undergone a cycle of Interest rate reduction    ↑Interest rates 17 times in a row to slow inflation Interest rate↑ Borrowing Cost↑ Subprime Based on the assumption that subprime lending precipitated the crisis. the administration also tinkered with Carter's Community Reinvestment Act of 1977 by regulating and strengthening the antiredlining procedures.

etc.) Subprime is the cause of USA Economy melt down. a person who is working on IT company earns Rs.40000 per month and he doesn’t have any other income or assets. But since profits are high where the risk is high. a lot of lenders get into this business to try and make a quick money. he will just surrender the house to bank and go away.). Some experts comparing this disaster with the 1930 Economy slow down in USA. 13 . When the bank gives him loan of some lakhs." April 2000.30000. It caused more damage to all the industries. What is Subprime lending? Subprime Mortgage Loans (or housing loans or junk loans) are very risky. there is no possibility for him to pay the EMI. For example.These loans are given to people who have inability to repay the loan and they don’t have stable income. Subprime crisis caused big loss to the banks and now it is affecting the other industries like AutoMobile companies (GM. In this blog I will write about what exactly is the Subprime crisis and why USA banks created such a big mistake in their era. If he lose the job. It is the very popular news among everyone and it is become very serious then expected.20000-Rs. This is the one simple example how Subprime problem starts. (See "The Community Reinvestment Act After Financial Modernization.and neighborhoods. the EMI for the month would be Rs. Ford.

14 .

previous debt or marital problems. lenders have seen that a tiered pricing arrangement. late payments.Who opt subprime lending? Individuals who have experienced severe financial problems are usually labeled as higher risk and therefore have greater difficulty obtaining credit. may allow loans which otherwise may not occur. These individuals may have had job loss. one which allows these individuals to pay a higher interest rate. It benefited them in two ways — they got huge liquidity at inflated housing prices and interest rates that 15 AWFUL!!!” . repossessions and even foreclosures may result. these individuals may also be precluded from obtaining any type of loan for an automobile. As a result. To meet this demand. usually these events were unforeseen and cause a major setback in finances. which they unlocked by contracting mortgage loans. creating a pool of wealth in the hands of Americans. house prices rose rapidly. charge-offs. or unexpected medical issues. Queen Elizabeth – Not amused… “If these things were so large. especially for large purchases such as automobiles or real estate. how come everyone missed them? Why did Subprime Crisis and the nobody Impact on Indianotice it? As interest rates started falling due to excess liquidity. Due to these previous credit problems.

finally. This will definitely have an impact on the GDP growth rate. the market will now focus on local issues. This became a virtuous cycle. high interest rates. resulting in a huge crisis of confidence. It would be naive to wish away this major problem inflicting the global markets and to presume that the Indian market is decoupled. This resulted in lower prices for houses and many were unable to cover the mortgage loans. and the market will look at ground realities. rallied largely because of global cues and has almost completely ignored the local issues. It has now hit the entire banking industry in the US and the virtuous cycle is becoming a vicious cycle. this virtuous cycle came to a standstill and the demand for houses started tapering. including political uncertainties and corporate earnings. What does all this mean for the Indian capital market? For one. Indian markets will see a correction because of high oil prices. One or more banks will fold.were practically lowest in the last twenty years. but definitely with certain political and economic risks. the flow of capital coming to the Indian stock market will be reduced. Perhaps a similar story will unfold in the next couple of months for these lenders who have lent big money into the subprime markets. just like Enron did. which has a 25 per cent share of 16 . slowing down of exports because of the slowing down of the US economy and rupee appreciation. fundamentals will rule over technicalities. With liquidity drying up. If the global super-tanker US. As interest rates started rising in the US due to inflation concerns. obviously fuelling global growth. It is natural to expect that. in the recent past. The stock market has. India was always considered one of the robust emerging markets. Let us also look at domestic fundamentals. which resulted in very high consumer spending.

The cracks became fullfledged canyons in 2008—when ruptures in the financial system's foundation swallowed up trillions of dollars and put the survival of the global banking system in serious peril.Li's Gaussian copula formula will go down in history as instrumental in causing the unfathomable losses that brought the world financial system to its knees..global GDP. when financial markets began behaving in ways that users of Li's formula hadn't expected. around $450bn of CDO of ABS were issued. II LEADING CAUSES Leading causes Credit creation Government Activities Securitization Practices Oil prices Other claimed Causes Government activities as a cause According to one wired.com article: "Then the model fell apart. Cracks started appearing early on. slows down it will definitely have an impact on the Indian economy.. of which about one third 17 ." It has been estimated that the "from late 2005 to the middle of 2007.

[o]ut of that pile. Oil prices Economist James D... had there been no increase in oil prices between 2007:Q3 and 2008:Q2.." These massive. practically unthinkable. Hamilton has argued that the increase in oil prices in the period of 2007 through 2009 was a significant cause of the recession. including some methods that had previously shown a decline in the relationship between oil price shocks and the overall economy. This perspective argues that the monetary policy of central banks creates excessive quantities of cheap credit by setting interest rates below where they would be set by a free market. losses have dramatically impacted the balance sheets of banks across the globe. with the CDOs underwritten by Merrill Lynch accounting for the biggest pile of defaulted assets. leaving them with very little capital to continue operations. the US economy would not have been in a recession over the period 2007:Q4 through 2008:Q3. around $305bn of the CDOs are now in a formal state of default. Credit creation as a cause The Austrian School of Economics proposes that the crisis is an excellent example of the Austrian Business Cycle Theory. which is inevitably followed by a bust. He evaluated several different approaches to estimating the impact of oil price shocks on the economy." 18 . All of these methods "support a common conclusion. followed by UBS and Citi. in which credit created through the policies of central banking gives rise to an artificial boom.were created from risky mortgage-backed bonds.

(2) Prolonged by an inability to evaluate counter-party risk due to opaque financial statements.25%. as commodity prices tumbled and the Federal Reserve was lowering its target rate to an all-time-low 0. due to gradual depletion of natural resources. Professor Herman Daly suggests that it is not actually an economic crisis. a permanent end of economic growth could be reached sometime in the first two decades of the 21st century. and (3) Worsened by the unpredictable nature of government's response to the crisis. Taylor concluded that the crisis was: (1) caused by excess monetary expansion. It has also been debated that the root cause of the crisis is overproduction of goods caused by globalization Overproduction tends to cause deflation and signs of deflation were evident in October and November 2008. including Congressman and former 2008 Presidential candidate Ron Paul and Peter Schiff in his book Crash Proof. An empirical study by John B. which stated that without major deviation from the policies followed in the 20th century.Other claimed causes Many libertarians. On the other hand. 19 . but rather a crisis of overgrowth beyond sustainable ecological limits This reflects a claim made in the 1972 book Limits to Growth. claim to have predicted the crisis prior to its occurrence.

By country • • • • • • Belgium Iceland Ireland Latvia Russia Spain 20 .

21 .

Madoff Investment Securities LLC Charter Communications Lehman Brothers o Bankruptcy of Lehman Brothers • • • • Linens 'n Things Mervyns NetBank Terra Securities o Terra Securities scandal • • • • • • • • • • • • • Sentinel Management Group Washington Mutual Icesave Kaupthing Singer & Friedlander Yamato Life Circuit City Banco Privado Português Allco Finance Group Waterford Wedgwood Saab Automobile BearingPoint Tweeter Chrysler o Chrysler Chapter 11 reorganization • General Motors o General Motors Chapter 11 reorganization 22 .Company failures Subprime mortgage • • • • • • crisis of lehman brthers New Century Financial Corporation American Freedom Mortgage American Home Mortgage Bernard L.

government did not announce any plans to assist with any possible financial crisis that emerged at Lehman.It culminated on September 9. after earlier rejecting questions on the sale of the company. Lehman announced a loss of $3. Like this 20 other small and medium size 23 . when Lehman's shares plunged 45% to $7. 2008 Swiss Re estimates its overall net exposure to Lehman Brothers as approximately CHF 50 million. 2008. As of now 22 banks closed because of Subprime crisis. The next day. The Dow Jones lost 300 points the same day on investors' concerns about the security of the bank. Lehman.S. a 138 year old company filed bankrupt. which includes Neuberger Berman.9 billion and their intent to sell off a majority stake in their investment-management business. was reportedly searching for a buyer as its stock price dropped another 40 percent on September 11. Just before the collapse of Lehman Brothers. Investor confidence continued to erode as Lehman's stock lost roughly half its value and pushed the S&P 500 down 3. after it was reported that the state-run South Korean firm had put talks on hold. On September 17. among other things.79. The stock slid seven percent that day. The U. executives at Neuberger Berman sent e-mail memos suggesting. It is started with the Lehman Brothers." SubprimeCrisis and Banking Industry Subprime crisis has ended history of many banks in the USA. It is followed by Washington Mutual Funds.4% on September 9. that the Lehman Brothers' top people forgo multi-million dollar bonuses to "send a strong message to both employees and investors that management is not shirking accountability for recent performance.

It is not yet over and now the Automobile companies are struggling. The major three companies in the USA. i will write the another post on details of how automobile companies went into trouble 24 . It is estimated that USA needs atleast $800 billion required to handle the Subprime crisis. Ford and Chrysler needs help from the government to survive. CitiBank also rescued by the USA government using bail out plan. Survival of Automobile Biggies Now the turn is Automobile industry and it is affected more than any other industry in the USA. The discussion is going on and the decision will be taken by the next week. American International Group (AIG) survived by giving the $80 billion bail out money by the USA government. The fall of automobile companies will be more. General Motors(GM). You can read that in the next section.banks fallen easily. Another major collapse with Citi Bank which has written off $60 billion as the bad debts. so it is expected that government will come to the rescue.


exposures undisclosed  No one is lending to anyone  Latest cost -CALL.17% -MIBOR-17%  But no credit is available  Small borrowers – Defaulting – INTENTIONAL?? 26 .INDIA BANKS THOUGHT TO BE OUT OF IT  Some banks in it / rumors abound  Other.

IMPACT ON ECONOMY  Growth of capital  Investment  Demand & growth  Global slow down well Impact on corporate  No Fund Available INDIA OR OVERSEAS  No Fund Available Debt Or Equity Internal Generation Limited Slow business not available cycle slow—job loss impact on economy as Slow—stop Cash is king!!!! 27 .

Timeline of subprime losses  June 2007 Bear Stearns spent $3.5bn) bailing out two of its funds exposed to the sub-prime market  August 2007 American Home Mortgage. Lehman Brothers & Washington Mutual Inc. in the latter's role as lender of last resort. 2.2bn (£1. Fannie Mae and Freddie Mac placed into conservatorship 2. filed for bankruptcy after laying off the majority of its staff  September 2007 1. British bank Bradford & Bingley was nationalized by UK government by taking control of the bank’s £50b mortgages and loans 28 .  March 2008 Bear Stearns was acquired by JP Morgan Chase for $1. The Federal Reserve provided an emergency loan of $85b to AIG 4.2b  September 2008 1. Bank run in Northern Rock in UK Northern Rock asked for and been granted emergency financial support from the Bank of England. one of the largest US independent home loan providers. filed for Ch11 Bankruptcy Protection 3.

29 . or to allow a failing company to fail gracefully without spreading contagion. insolvency.Remedies Bailouts Capital Injection Deposit Guarantee Nationalization Bailout A bailout is an act of giving capital to a company in danger of failing in an attempt to save it from bankruptcy. or total liquidation and ruin.

Deposit Guarantee Schemes Deposit Guarantee Schemes reimburse a limited amount of deposits to depositors whose bank has failed. From a financial stability perspective. when some financial support is provided. thereby preventing severe economic consequences. The notion of "capital injection" as such is not defined in the SNA93 and in the ESA95. 5 Instills a corporatist style of government in which businesses use the state's power to forcibly extract money from taxpayers. this promise prevents depositors from making panic withdrawals from their bank. it may cover any payment from government to a public corporation having the characteristics of either a capital transfer or a financial transaction in national accounts. From the depositors' point of view. In order to ensure greater 30 . In the media. this protects a part of their wealth from bank failures. Capital injection Analysts in the media commonly refer to "capital injections" made by the government in a public corporation. In October 2008.Reasons against bailouts 1 Signals lower business standards for giant companies by incentivizing risk 2 Creates moral hazard through the assurance of safety nets 3 Promotes centralized bureaucracy by allowing government powers to choose the terms of the bailout 4 Instills a socialist style of government in which government creates and maintains control over businesses. the Commission proposed urgent legislative changes that entered into force in March 2009.

a number of reports were commissioned in recent years.effectiveness of Deposit Guarantee Schemes. an expert roundtable took place in March 2009 and in 2006 a Communication was issued. the Commission is now reviewing the Directive as a whole. Moreover. Nationalization Definition 31 .

a further impetus has been resentment of foreign control over industries upon which the state may be largely dependent. Alteration or assumption of control or ownership of private property by the state. or hospitals). It is historically a more recent development than and differs in motive and degree from “expropriation” or “eminent domain.” which is the right of government to take property for particular public purposes (such as the construction of roads.Government ownership of an industry or company. A third motive for recent nationalizations may be the belief in some developing countries that state control of various industrial operations is at least temporarily necessary because of the lack of a developed capital market or supply of entrepreneurs in the domestic private sector. and in the nationalization of foreign businesses in Cuba in 1960. as in the nationalization of the oil industries in Mexico in 1938 and Iran in 1951. Opposite of denationalization. reservoirs. 32 . More recently. normally accompanied by the payment of compensation.

lending to people with low or poor credit worthiness”. 33 . We have discussed above 8 year crashing cycle of stock market of India but in this assignment recent US market crash has been discussed.e.From the above all discussion it can be concluded that there are many factors which causes global meltdown also known as recession. Which effect the whole world in this subprime lending means “lending money to sub prime borrowers i. This meltdown is due to subprime lending in US.

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