MANAGERIAL FINANCE

(FIN745)

GROUP ASSIGNMENT:
CASE STUDY ANALYSIS
ETHICAL ISSUES IN FINANCE (CREDIT BUBBLES)

PREPARED FOR:
DR. NOR HALIDA HAZIATON MOHD NOOR

PREPARED BY:
MOHD SYAFIQ BIN MOHD SIDIK 2022203128
NURFAZILA SHAZWANI BINTI MOHD ZULKIFLI 2021166031
NURFAZILA SHAMIMI BINTI MOHD ZULKIFLI 2021500161
 TABLE OF CONTENT

TITLE PAGE NUMBER

1.0 INTRODUCTION……………………………………………………… 1

1.1 Ethics in finance……………………………………………………….. 1

1.2 Ethical issue in finance………………………………………………... 2

1.3 Credit bubbles…………………..………………………………….… 2

2.0 CASE STUDY ANALYSIS BASED ON 1ST ARTICLE…………….. 3

2.1 The issues of credit bubbles: An Erosion of Ethics……………………. 3

2.2 The issues of credit bubbles: Housing and Bond Bubbles…………….. 5

2.3 The issues of credit bubbles: Excessive Leverage……………………… 6

2.4 The issues of credit bubbles: Reluctant Regulators……………………. 6

2.5 The issues of credit bubbles: Overrated and Conflicted Rating Agencies 6

2.6 The issues of credit bubbles: Corrupting Compensation Systems……… 7

3.0 CASE STUDY ANALYSIS BASED ON 2 ND ARTICLE…………….. 8

3.1 The issues of credit bubbles: Credit has frequently fluctuated…………. 8

3.2 The factors of credit bubbles…………………………………………… 10

3.3 The role of policy of credit bubbles……………………………….……. 12

3.4 The negative effect of credit bubbles…………………………………… 13

4.0 CASE STUDY ANALYSIS BASED ON 3 rd ARTICLE…………….. 14

4.1 The issues of credit bubbles: Housing bubbles in Malaysia……………. 14

5.0 CASE STUDY ANALYSIS BASED ON 4 th ARTICLE…………….. 17

5.1 The issues of credit bubbles: Irrational behavior of investors…………. 17

 5.2 Two types of bubbles: Classic bubbles and current bubbles…………… 18

5.3 The issue of ethical finance: Irrational exuberance among investors….. 19

6.0 CASE STUDY ANALYSIS BASED ON 5th ARTICLE……………… 21

6.1 Factors of credit bubbles in Turkey……………………………………. 21

7.0 CONCLUSION…………………………………………………………. 22

8.0 REFERENCES……………………......................................................... 23
1.0 INTRODUCTION

This report is a review of case study analysis about the ethical issues in finance and this report
focuses on the credit bubble. There will be a discussion about the definition of ethics in finance,
ethical issues in Finance, and credit bubbles. This report also has discussed several articles which
discussed the current issues happened that related to credit bubbles such as credit has frequently
fluctuated and the issue of housing bubble. Next, this report will proceed to discuss the factors that
caused credit bubbles to happen, the policy of handling credit bubbles, and the negative impacts
of credit bubbles. All of these will be discussed further in this report.

1.1 Ethics in finance

Ethics in finance means the procedure, and set of standards related to financial management that
the staff of the organizations must depend on and follow in order to make sure that the assets of
the organizations can be preserved and well managed (Beck, Fernandez, Huang, & Morgan, 2022).
This definition has been supported by Adam (2023) in his research which defines ethics in finance
as the moral code of conduct that directs and controls the behavior of staff or managers in financial
management.

Each company must have its own set of standards of ethics in finance to create trust and confidence
among the staff to preserve and manage the company assets correctly. Integrity, trustworthiness,
and fairness among stakeholders are among the values and principles that organizations should
uphold in order to remain competent in the market. Since financial transactions are characterized
by unequal market powers and disproportionate access to pertinent information between
participants, especially in regions where legal or regulatory restrictions are unclear in their
effectiveness, ethical issues in finance are especially essential. As a result, ethical questions and
behavior are central to contemporary financial economics, as evidenced by the significance of
subjects like agency theory, financial contracting under information asymmetry, moral hazard,
adverse selection, and reputation building in the financial industry (Beck, Fernandez, Huang, &
Morgan, 2022).
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Other than that, ethics in finance also can create a company that has a strong moral operation and
this will enable the company to draw in new customers and increase business from current ones
who are searching for moral partners. This is because people in different marketplaces are more
inclined to suggest a company they trust to have strong relationships with, it can aid in public
expansion and profitability. This can result in higher sales and market share. The prevention of
expensive legal actions that could negatively affect an organization's profitability or possibly force
it out of business is another reason why ethics is crucial to the financial management process
(Adam, 2023).

1.2 Ethical issues in finance

This is a situation when somebody in the organization does any bad or unethical behaviors related
to the company’s assets to gain benefit for themselves (Beck, Fernandez, Huang, & Morgan, 2022).
Examples of these unethical behaviors include using business materials for personal use, taking
gifts or favors in order to obtain financial benefit, and filing false reports. This is a situation in
which the person could unfairly benefit personally at the expense of the company. Contrarily,
ethical activity can increase wealth. Unethical action is expensive since it harms a company's
brand. Other examples of ethical issues in finance are incompetent financial advisers, dishonest
financial borrowers, false information about loans, unlawful financing, unfair financial terms,
misappropriation of financial trust, professional misconduct of financial agents, and disparaging
remarks about the financial industry are a few instances of unethical behavior in the finance
industry.

1.3 Credit bubble

When the price of an asset, such as stocks, bonds, real estate, or commodities, rises quickly without
any underlying fundamentals to support the price spike, it is known as an asset bubble (Segal,
2023). It is typical for prices to fluctuate over time as buyers and sellers find equilibrium through
a sequence of subsequent exchanges. As this process develops, it is usual to see prices exceed the

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values predicted by the principles of supply and demand. Economists have easily shown this in
controlled experiments and in-class exercises. One of the types of asset bubbles that will be
discussed in this report is credit bubbles. Credit bubbles are characterized by an abrupt increase in
loans to consumers or businesses, debt instruments, and other credit products. Mortgages, student
loans, and corporate or government bonds such as United States Treasuries are a few specific
examples of assets (Segal, 2023).

2.0 CASE STUDY ANALYSIS BASED ON 1st ARTICLE

This case study looks at five aspects of the US financial crisis that occurred between 2007 and
2009. First, they discussed the catastrophic effects of the financial crisis on the American economy,
which include historically high unemployment, sharp drops in GDP, and the protracted mortgage
foreclosure crisis. Second, is the various causes of the financial crisis and panic, which include the
housing and bond bubbles, excessive leverage, shoddy banking practices, and appalling
performance by rating agencies.

Title of 1st Article : Financial Crisis: An Erosion of Ethics: A Case Study

Authors : Edward J. Schoen1 (23 February 2016)

2.1 The issues of credit bubbles: An Erosion of Ethics

The case study looks at five important aspects of the financial crisis that hit the US in 2007–2009
which is the first one is the catastrophic effects on the US economy. Second, is the various causes
of the crisis and panic. Third, the remarkable efforts made by government regulatory agencies to
stop the financial collapse caused by the crisis. Forth is the moral implications of the actions taken
by the various parties involved in the crisis and those who ultimately helped to save the US from
it, and last one is the main provisions of the Dodd–Frank Wall Street Reform and Consumer
Protection Act, which was passed into law in response to the financial crisis.

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The section titled "Causes of the 2007–2009 Financial Crisis" will examine the primary factors
that led to the financial crisis, including the housing and bond bubbles, excessive leverage, slack
financial regulation, dishonest banking practices, and poor performance by rating agencies. This
will help to pinpoint the major players who played a role in the crisis, including mortgage brokers,
subprime mortgage lenders, financial institutions, bond rating companies, and regulatory agencies.

The section titled "Major Ethical Issues" will list the main ethical concerns arising from the actions
of the financial crisis's contributors and the government institutions employing novel rescue tactics
to pull the crisis back from the verge of complete worldwide collapse. These activities include the
dishonest behavior of mortgage brokers who misled customers into questionable subprime loans,
the massive securitization of mortgages and other loans into unnecessarily complicated bond
investments that financial firms bought all over the world, the regulatory agencies' inability to
address the reckless lending practices and excessive leverage of financial institutions, the dishonest
work of bond rating firms in assessing the intricate, multi-tranched investments that the banks were
turning out, the pitiful risk management system that AIG was using, and the vast operations of
shadow banking and over-the-counter derivatives markets

The U.S. economy was severely damaged by the 2007–2009 financial crisis, which caused a
protracted and severe recession that began in December 2007 and ended in June 2009 (The
Financial Crisis Inquiry Report [“FCI Report”] 2011, pp. 390–391). The catastrophic outcomes
included sharp drops in the gross domestic product and significant, protracted unemployment.
During a dramatic spike in unemployment that started in early 2008 and continued until late 2009,
the jobless rate was 7.8% or higher for 46 months in a row.

Other problems were sparked by the high increase in unemployment and the drop in GDP.
Households lost $17 trillion in net worth between the first quarter of 2009 and the end of 2007.
Home prices fell 32% from 2006 to 2009, and the percentage of people who owned a home
decreased from 692 in 2004 to 669 in the fall of 2010. Between September 2007 and December
2008, the stock market plummeted and assets in retirement plans like 401(k)s lost $2.8 trillion, or
almost one-third of their original value.

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The second half of 2008 saw a decline in consumer expenditure, which typically accounts for two-
thirds of GDP, of about 3.5% annually, and this decline continued in the first half of 2009. Business
bankruptcies in the US increased sharply as a result of a lack of finance for businesses.

20,000 American businesses declared bankruptcy in 2006; by 2009, that number had tripled to
about 61,000. Commercial real estate suffered as well. Fall 2010 saw a substantial increase in
commercial vacancies, with 20% of all office space vacant. As of February 2010, nearly half of
commercial real estate loans were "underwater," meaning that the mortgage obligation was more
than the property's worth. Due to job losses, bankruptcies, and foreclosures, people also requested
more services, such as Medicaid, welfare, and unemployment benefits, which in turn put state and
local governments under pressure to deal with steep revenue drops. The mortgage foreclosure
crisis was also brought on by the financial crisis. Approximately four million families lost their
homes to foreclosure following the collapse of the housing bubble, while an additional four and a
half million families either fell into the foreclosure process or fell far behind on their mortgage
payments.

2.2 The issues of credit bubbles: Housing and bond bubbles

A significant and sustained divergence between an asset's price and its intrinsic worth is referred
to as a bubble. Since bubbles are typically accompanied with strong fundamentals, it can be
extremely challenging to pinpoint which percentage of the asset value increase is attributable to
the bubble and which to the improving fundamentals. It is more likely that the bubble's existence
is verified in retrospect after it explodes. This was the case with the remarkable housing bubble of
historic dimensions that occurred between 2000 and 2009.

The increase in home prices can be attributed to a number of causes. After the tech stock bubble
burst in 2000, investors "were looking for a safer, stabler place to invest their money" and "really
could earn a high real return by investing in housing". Thanks to leverage. This led to a "gold
rush" mentality taking over the nation. In an effort to stimulate the economy, the Federal Reserve
maintained exceptionally low short-term interest rates in 2003 and 2004, which resulted in
historically low mortgage interest rates.

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Lenders such as banks essentially threw money at both current and potential homeowners who
wanted to refinance at cheaper interest rates. Home refinancing, which soared from $469 billion
in 2000 to $2.8 trillion in 2003, was made possible by rising housing prices. Lending institutions
fell in love with adjustable-rate mortgages, which started to replace the traditional 30-year fixed
rate, 20% down payment prime mortgage loan. These loans offered protection to the lender against
rising interest rates over the mortgage's term as well as enticingly low interest rates for the
borrower in the early years.

2.3 The issues of credit bubbles: Excessive Leverage

Lenders such as banks essentially threw money at both current and potential homeowners who
wanted to refinance at cheaper interest rates. Home refinancing, which soared from $469 billion
in 2000 to $2.8 trillion in 2003, was made possible by rising housing prices. Lending institutions
fell in love with adjustable-rate mortgages, which started to replace the traditional 30-year fixed
rate, 20% down payment prime mortgage loan. These loans offered protection to the lender against
rising interest rates over the mortgage's term as well as enticingly low interest rates for the
borrower in the early years.

The total amount of mortgage debt in the United States increased from $5.3 trillion in 2001 to
$10.5 trillion in 2007, with the average mortgage debt of American households increasing by
nearly the same amount in the six years between 2001 and 2007 as they had during the nation's
more than 200-year existence. With a minimum 20% down payment needed, prime mortgages
offer homeowners a 5 to 1 leverage ratio. Subprime mortgages, which required 5% or less in down
payment, increased the borrower's leverage ratio to 20 to 1 or more. A loss of even a small amount
might bankrupt the subprime borrower. Additionally, banks have risky levels of leverage. They
made significant borrowings in the short-term "repo" and commercial paper markets. The former
were short-term, unsecured loans that the lender would always renew up until the crisis.

The latter involved contracts wherein the seller would sell the lender securities. First Treasury
bonds, then mortgage-backed securities and collateralized debt obligations, and then buy them
back at a little higher cost. The lender consistently renewed the repo loans as well. There was less
transparency in these markets because these were often private transactions, and other banks were

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typically unaware of the amount to which the banks increased their leverage in the commercial
paper and repo markets. As the financial crisis deepened, lenders started to doubt the value of the
assets the borrower disclosed on the balance sheet and deposited as collateral, which would
eventually become a significant problem.

2.4 The issues of credit bubbles: Reluctant Regulators

During the financial crisis, the Office of Thrift Supervision (OTS), the Federal Deposit Insurance
Corporation (FDIC), and other four federal banking regulators were in charge of making sure that
banks and other financial institutions operated safely and soundly. Banks multiplied their SIVs,
approved hundreds of billions of dollars in embarrassingly bad subprime mortgages, and invested
enormous sums of money in risky assets that they misrepresented as, and possibly even thought
were, secure, all under the "unwatchful" gaze of the regulators.

2.5 The issues of credit bubbles: Overrated and Conflicted Rating Agencies

The abundance of AAA ratings bestowed upon numerous senior and super senior mortgage-related
securities by credit rating agencies was a crucial component in the sequence of events culminating
in the financial catastrophe. Regretfully, the credit rating agencies Moody's, Standard and Poor,
and Fitch botched the job by applying seriously flawed models to assess the safety of the
underlying mortgages and attached their coveted AAA rating to MBS and CDO tranches like
partygoers flinging beads in New Orleans, instead of acting as the safety rail preventing the
financial system from careening off the road.

In addition to the ineptitude of the rating agencies, the remuneration structure itself was a factor in
the inaccurate assessments. The rating agencies were engaged by the securitizers and paid to assess
their securities. The rating agency has an innate need to satisfy its clients in order to avoid biting
the hand that feeds it. Furthermore, negotiating the desired ranking was standard procedure in the
rating industry.

For instance, the securitizer may inquire of the rating agency what adjustments were required in
order to receive the AAA rating. The rating agency was forced to award the highest rating when

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the securitizer complied with its recommendation. Furthermore, securitizers participated in
"ratings shopping," wherein they pitted one rating agency against the other and hired the rating
firm willing to offer the highest rating, because there were only three SEC-accredited rating
agencies.

Furthermore, there is no drawback to the rating agency providing an inaccurate rating. Rating
agencies are generally not accountable for their misstatements because security ratings are
statements of opinion rather than fact, and because their agreements to supply ratings disclaim
liability for inaccurate ratings. Finally, instead of doing their own research, large asset managers,
regulators, and market experts far too frequently relied solely on the ratings agencies' assessments.
Because of this "abdication of duty" to investigate the investments' safety further, the rating
agencies unjustly gained the title of "oracular authority.

2.6 The issues of credit bubbles: Corrupting Compensation Systems

Incentives for profitable transactions were given to traders at banks, investment banks, hedge
funds, and other financial institutions; however, there were no consequences for unsuccessful
trades. Golden parachutes were provided in the event of financial losses, and senior executives and
important staff got substantial compensation packages for the financial success of their enterprises.
As previously said, mortgage brokers made more money by persuading clients to sign mortgages
even though they had bad credit and could not afford the loan.

If they forced the borrowers into riskier mortgages, they increased their commissions even further,
but they would lose nothing if the loans fell into default. Employees were incentivized by stock
options to prioritize immediate gains, assume higher risks, and utilize greater leverage in order to
cause surges in the company's stock value. Sadly, corporate directors were merely asleep at the
wheel when it came to fixing and supervising pay systems, which had devastating results.

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3.0 CASE STUDY ANALYSIS BASED ON 2 nd ARTICLE

The second article “Managing Credit Bubble”, the researchers Ventura & Martín (2021, July 5)
discussed the current issue of credit bubble which is credit has frequently fluctuated. Other than
that, the researchers also discussed about the factors that cause the credit bubbles to happen, the
role of policy in handling credit bubbles, and also the negative impacts of credit bubbles.

Title of 1st Article : Managing Credit Bubble

Authors : Ventura, J., & Martín, A. (2021, July 5)

3.1 The issues of credit bubble: Credit has frequently fluctuated

Macroeconomists generally agree that changes in collateral play a significant role in causing credit
booms and collapses. In this column, there is a distinction made between "fundamental" collateral,
which is supported by future profit expectations, and "bubbly" collateral, which is supported by
future credit expectations. Because markets are generally unable to supply the right quantity of
bubble collateral, stabilization interventions naturally play a role. Replicating the "optimal" bubble
allocation, a lender of last resort with the power to tax and subsidize credit can create a "leaning
against the wind" policy (Ghosh, Papathanasiou, Dar, & Gravas, 2022).

In contemporary economies, credit markets are becoming more and more important. According to
the Bank for International Settlements, domestic credit in the OECD increased from 100% of GDP
in 1970 to almost 160% of GDP in 2012. Undoubtedly, this expansion conceals significant
differences between nations and over time, but one aspect of each of these diverse national
experiences sticks out as being similar. Credit has frequently fluctuated between "booms," or times
of fast expansion, and "busts," or times of considerable contraction or stagnation. Additionally,
some data suggests that credit booms and busts have increased in frequency recently.

Specifically, credit booms are known to be linked to high asset prices as well as rapid increases in
real GDP, investment, and consumption (Ventura & Martín, 2021). Despite this, policymakers and

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scholars continue to be concerned about credit booms. The reason for this is that they inevitably
come to an end, and in their wake, financial crises and slow economic growth are frequently
observed. In the hopes that fewer booms will result in fewer crises, this has led to requests for laws
that limit lending during booms.

Understanding the factors influencing these loan cycles is necessary in order to assess the merits
of these policy proposals. Of fact, there are many reasons why credit could fluctuate, and different
kinds of fluctuations might necessitate different policy responses. Broadly speaking, variations in
credit could be an indication of shifts in supply or demand. Furthermore, these might indicate
modifications in an array of elements such as inclinations, innovations, or anticipations. However,
macroeconomics has recently concentrated on credit oscillations caused by changes in borrowing
limitations. This forms the basis of "financial accelerator" models, which have gained popularity
in the wake of the financial crisis and expand upon the work of Bernanke and Gertler (1989) and
Kiyotaki and Moore (1997).

The core storyline of these models is straightforward which is when a borrower receives credit,
she is trading things now for an assurance that she would deliver goods hereafter. Lenders will
only take these commitments seriously if there is a chance they will be paid back. This is contingent
upon future earnings from borrowers that lenders can legitimately accept as security a concept
known as the economy's stock of collateral. This stock of collateral controls the number of
promises that can be made if borrowers are restricted. A theory of collateral variations is necessary
to comprehend credit booms and busts if borrowers are constrained.

The bubbly allows borrowers to get credit outside their primary collateral by definition. It makes
sense that present borrowers can get "excess" credit now because it is anticipated that they will
also get "excess" credit in the future, which mean the credit will be rolled over. This is how bubbles
crowd each other in, increasing investment ceteris paribus. However, some of the resources of
future generations will be diverted, means the resources will be redirected to roll over this credit
away from investment in order to finance this future "excess" credit.

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This is the way bubbles crowd each other out, which, ceteris paribus, lowers investment. The
relative importance of these two impacts determines the macroeconomic ramifications of bubbles.
Specifically, it is observed that when bubbly collateral is low, the crowding-in impact
predominates, and when bubbly collateral is high, the crowding-out effect predominates. As a
result, a "optimal" bubble forms that balances these two impacts and produces the right amount of
bubbly collateral to maximize output and consumption over the long term (Ventura & Martín,
2021).

3.2 Factors caused credit bubbles

3.2.1 Loose Monetary Policy

Monetary policy modifies the incentives for saving and investing, which in turn affects economic
activity. Usually, this channel has an impact on company investment, housing investment, and
consumption. Lowering interest rates is the goal of loose monetary policy to boost the economy.
By decreasing interest rates and expanding the money supply, central banks frequently enact
measures to promote economic growth. These policies promote borrowing and spending, but they
also run the risk of creating an unsustainable amount of credit. This is how loose the monetary
policy can cause credit bubbles. Other than that, lower interest rates also can cause households to
be less motivated to save money.

3.2.2 Speculative Behavior

The act of engaging in a financial transaction with a high potential for loss but also with a high
potential for gain is referred to as speculation. If there were no chance of significant profits, there
would be no incentive to speculate. Investors get unduly sanguine about the future values of assets
during a credit bubble. This encourages speculative activity, in which people and organizations
take on large debt in order to make investments in assets they think will increa se in value over
time.

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 3.2.3 Quick Credit Expansion

Credit expansion is the portion of any money supply expansion that is not brought about by a
surplus in the balance of payments. Lending by the banking system to the public or private sectors
can increase the money supply. Domestic credit expansion is this additional bank lending within
the country. Banks may loosen their lending requirements and provide loans to people and
companies that otherwise might not be able to pay them back. This contributes to the quickening
pace of credit expansion and asset price inflation.

3.2.4 Asset Price Inflation

The nominal increase in the prices of stocks, bonds, derivatives, real estate, and other assets is
known as asset-price inflation. Growing asset values could be deceptive indicators of an expanding
economy. Nothing is generated that is comparable to the items that are included in the GDP, even
if the stock market rises or property values rise. The prices of different assets rise when credit
enters the market. For example, during a real estate bubble, demand driven by easy access to credit
drives up house prices.

3.2.5 Overleveraging

If a company takes on excessive debt and becomes too indebted to make interest or principle
payments on time, or to keep up with operating expenditure payments, this is known as
overleveraging. When borrowers assume that the increasing value of their assets will cover the
debt, they take on large amounts of debt, frequently beyond their ability to repay. The high leverage
may become unmanageable if asset prices begin to fall or cease to rise.

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 3.3 The role of policy of credit bubble

Bubble Collateral's stock is influenced by market expectations and investor emotions, which is a
crucial characteristic. The credit that borrowers receive today is contingent upon market
expectations regarding the credit that they will receive tomorrow, which contingent upon the
market expectations are regarding the credit that borrowers will receive the day after tomorrow,
and so on. As a result, markets may offer too much or too little bouncy collateral at different
periods, which naturally gives stabilization policies a role. Amy (2023) demonstrate that the best
bubble allocation can actually be replicated by a lender of last resort possessing the power to both
tax and subsidize credit. In order to achieve this, it must implement a "leaning against the wind"
strategy, which involves charging credit while bubble collateral is abundant and subsidizing it
when bubbly collateral is in short supply. The researchers also has demonstrate how such a policy
increases output and consumption at steady-state levels. However, the impact on macroeconomic
volatility may be unclear. The rationale is that the policy may improve credit's response to typical
productivity shocks while decreasing credit's reactivity to "investor sentiment" shocks by
controlling the economy's supply of collateral (Amy, 2023).

The proposed policy's requirement for a real movement of resources to or from borrowers is an
intriguing feature. This makes it more of a fiscal than a monetary policy, which is typically linked
to bubble control. However, the policy can also be understood as an asset purchase program,
similar to those that have been implemented by several governments since the start of the current
financial crisis. The market value of promises supported by bubbly collateral declines together
with the stock of bubbly collateral when our economy explodes or deflates. In such cases, the
proposed policy mandates that the lender of last resort step in and buy these pledges at a discount,
paying more than their market value. As a result, it increases total borrowing ex ante and the
economy's collateral ex post.

These findings offer a cogent and comprehensive understanding of credit booms and busts,
whereby fundamental and bubbly collateral are important components. They also offer a helpful

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road map for directing policy when addressing credit bubbles. However, the hypothesis is not
without flaws. One of the most significant is that the difference between the ideal bubble and the
actual one is exactly noticed; the function of policy is to close this difference. Because market
players and policymakers may not be sure whether variations are being driven by fundamental or
bubbly collateral, reality is more nuanced. There is still more work to be done, but introducing this
kind of uncertainty is a crucial next step in this study agenda.

3.4 A credit bubble burst might have dangerous repercussions (Amy, 2023):

3.4.1 Asset Price Collapse

When the bubble bursts, the values of the assets that were held by investors and financial
institutions saw a sharp decline in value.

3.4.2 Debt Defaults

When asset values decline, highly leveraged borrowers may find it difficult to make loan
repayments, which could result in a large number of defaults.

3.4.3 Financial instability

Banks and other financial institutions that rely significantly on these assets may experience
financial difficulties. These difficulties have the potential to cascade throughout the financial
system, resulting in a credit crisis and a downturn in the economy.

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 4.0 CASE STUDY ANALYSIS BASED ON 3 rd ARTICLE

Title of article : Prospecting Housing Bubbles in Malaysia

Authors : Hamid, N., Razali, M. N., Azmi, F. A., Daud, S. Z., & Yunus, N. Md.
(2022).

4.1 The issues of credit bubbles: House bubbles in Malaysia

Malaysia has seen a roughly 32% increase in housing costs, and the trend of these prices gradually
rising is concerning. The latest research by Ismail (2019) claims that the disparity between the
median house price and household income is the main reason why property prices in Malaysia are
often expensive. In Malaysia, price variations from the affordable value have the potential to incite
property price bubbles. Hamid, Razali, Azmi, Daud, and Yunus (2022) state that asset prices that
are higher than their intrinsic value are a sign of bubbles because present owners think a higher
price would be obtained when they sell their assets. Furthermore, the values of houses, like those
of many other assets, showed a fair amount of volatility, which leaves the residential real estate
market vulnerable to a number of variables, including material costs and macroeconomic
conditions. It remains to be seen, though, if this is a sign of the house price bubble. Since the theory
of a bubble was developed by Kindleberger (1978) and later by Shiller (1981), who noted that a
spike in asset prices will cause bubbles, the indications of housing price bubbles have been the
subject of discussion. Subsequent research, however, by other authors, Barberis et al. (2018),
agrees that bubbles are caused by a variety of factors, including differences between current house
prices and affordability levels, and are not always determined by price surges. Consequently, it is
evident that more research on housing bubbles is required.

Malaysia's real estate bubble is not a recent development. Due to high demand from international
investors, Malaysian property prices peaked prior to the Asian Financial Crisis (AFC), which has
led to a lot of opportunities in the real estate market (Razali, 2015). But as it turned out, the crisis
had a significant negative impact on the housing market's performance as well as investments from
both domestic and foreign real estate players, which led to many developers abandoning their

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projects (Said et al., 2014; Razali, 2015). The crisis's abrupt decline in real estate values is an
indication that the housing bubble is about to explode. Yip et al. (2017) provided additional support
for this in a study that looked at bubble spotting in the Malaysian property market. They found a
property bubble in 1996, at the time of the AFC, and more recently in 2010, which peaked in 2013,
using the Phillips, Shi, and Yu (PSY) technique. Only the medium-to high-end part of the
residential real estate market is covered by this conclusion. All of these results, meanwhile, run
counter to those of Naseer and Masih (2016), who concluded that housing price bubbles in
Malaysia did not exist until 2015 based on their estimate of equilibrium house prices. The divergent
views on the housing bubble phenomenon have increased the interest in this topic's research.

A bubble is the expectation that an asset will be sold for more money in the future. From the
standpoint of residential real estate, a bubble occurs when a property's value is high because of the
belief that it will eventually reach a specific price point. Contrarily, a bubble was described by
Ismail (2019) as a component of an inexplicable asset price movement that was caused by a number
of factors. A quick spike in the asset price (property value) followed by an instantaneous decrease
is indicative of an extreme period of price swings, which is when the bubble occurs. A housing
bubble is characterized by a persistent increase in house prices that is driven solely by speculation
and expectations of real estate players, particularly those involved in the housing market, and that
is impacted by non-fundamental economic indicators.

The topic of housing bubbles is among the most crucial in housing market research. Since the 2007
subprime mortgage crisis, many research have been done on the housing bubble and subsequent
price crash in the United States. Compared to the many studies examining US housing bubbles,
relatively few studies examine housing bubble-like behavior in the Eurozone, despite the fact that
the performance of housing markets in the Eurozone has been a significant research issue. While
some studies like Maas (2019) have focused on housing price correlation or contagion, others like
Maas et al., (2018), Sol e-Olle and Viladecans & (2019) have examined the factors that affect
housing prices in the Eurozone.

15
Numerous signs of housing bubbles have been found in earlier research. As a result, these results
have given real estate investors a way to plan their investment choices. Wu and Lux (2018) have
classified bubbles as the discrepancy between the predicted growth in home prices based on prior
results and the actual price growth, in addition to the abrupt change of property values. Last but
not least, speculation spearheaded by real estate investors was a major factor in the housing bubble
and boom. Property speculation has led to an inflated expectation of future property values, but
bubbles caused by speculation often crash hard, according to Wu and Lux (2018). The current
financial crisis serves as proof of the damaging effects that speculative bubbles can have on an
economy.

Research indicates that housing bubbles have wildly varying lifespans (Gomez et al., 2017).
Additionally, according to this expert, bubbles that emerged in the wake of the present global
financial crisis persisted far longer than those that did so in the 1980s and 1990s. Researching the
factors that make certain bubbles last longer than others is crucial and has significant policy
ramifications, particularly if monetary policy affects how long a bubble lasts.

Before it is too late, it is critical to recognize housing bubbles since their effects can severely
damage an economy. According to Gomex et al (2017), housing bubbles have detrimental effects
on the economy, and those who purchased their homes during a housing bubble's peak and
subsequent market boom are the ones who suffer the most. Moreover, the author opined that the
bubble may expand to the labor market, resulting in joblessness and pushing several individuals
and business owners into bankruptcy. The housing bubble has a bigger effect than the stock market
bubble because the wealth or value in the housing market is spread more fairly than in stocks,
where record-breaking bubbles have created value of over USD 5 trillion. A glut of homes was
also caused by housing bubbles. Due to the overabundance of real estate, developers are unable to
meet their investment goals and run the risk of going bankrupt. Numerous techniques have been
used in earlier research to quantify housing bubbles. For example, Gelain et al. (2018) reverse-
engineer the movement of the U.S. housing market using the quantitative asset pricing model, and
the approach has given strong insight into the underlying cause.

16
 5.0 CASE STUDY ANALYSIS BASED ON 4 th ARTICLE

Title of article : Machine Learning to Forecast Financial Bubbles in Stock

Markets: Evidence from Vietnam
Authors : Kim Long Tran, Hoang Anh Le, Cap Phu Lieu and Duc Trung Nguyen
(2023)

5.1 The issues of credit bubbles: Irrational behavior of investors

Financial bubbles can have a significant impact on an economy and the standard of living for its
people. Financial and debt crises, such the ones that occurred during the dot-com boom in 1999–
2001 and the US subprime mortgage crisis in 2007–2009, are examples of consequences that result
from the abnormal rise in asset prices in the stock or real estate markets. A bubble burst can result
in the demise of significant financial institutions, driving nations toward bankruptcy and igniting
all-encompassing financial and economic catastrophes. With the opening of the Ho Chi Minh City
Stock Exchange in July 2000, the Vietnamese stock market was created. The market grew
significantly between 2006 and 2007. But there was a severe downturn in 2008, which was
followed by a rebound in 2009, which resulted in steady growth through 2016. The Vietnamese
stock market has seen tremendous volatility from 2017 to the present. In 2018, the VNIndex
crossed the 1000-point threshold. In 2020, there was a severe decrease, and in 2021 and 2022,
there were further oscillations. In July 2023, the market capitalization of the Vietnamese stock
market was USD 205.153 billion, representing 65% of the country's GDP.

More than 1600 firms are listed on the market. These companies make up over 80% of the market
capitalization, and they mostly operate in the financial, real estate, and vital consumer products
sectors. The Vietnamese market is expanding swiftly, but it is not yet sustainable or efficient. The
market often comprises many stocks whose prices are manipulated and is susceptible to rumors.
These problems could be brought on by investor sentiment instability and a lack of openness in

17
market information. Therefore, in order to protect ordinary investors and preserve market stability,
regulatory bodies need to be very watchful in spotting financial bubbles early on.

5.2 Two types of bubbles: Classic bubbles and current bubbles

The idea of financial bubbles is a fascinating area for study and is sometimes referred to by several
names, such as speculative bubbles or asset price bubbles. Regarding the identification of financial
bubbles, there are differing points of view. Financial bubbles are typically divided into two main
categories which is classical bubbles and current bubbles.

The main cause of classical bubbles is irrational investor behavior. According to Kim, Hoang, Cap
and Duc (2023) market bubbles are psychological in nature. They proposes that the attention given
to these bubbles by the news media amplifies feedback-trading tendencies, which in turn causes
the development of these bubbles. This is because the news media tends to cover an asset more
extensively when more investors express interest in it, which draws in additional potential
investors. As a result, there is a boost in demand for the asset, which raises its price and draws
further coverage from the media. The market's inclination toward feedback trading is strengthened
by this cyclical process, which eventually causes bubbles to form. This behavior is commonly
known as "herd mentality," and the effects it can have can cause a sharp collapse in the market,
which would then have a significant effect on the economy as a whole. These authors contend that
investors' excessive enthusiasm and blind faith caused financial bubbles, which in turn sparked a
string of careless investment choices that eventually resulted in a market meltdown and asset value
correction.

The emergence of a financial bubble happens when investors think that prices today already
represent high levels of expectation and that the underlying causes of such prices have disappeared.
Put another way, a bubble forms when investors start to feel that there is no longer any chance of
future returns at the current levels, and this belief spreads widely. The bubble expands when
investors believe that the rising trend will continue and fear that they will miss out on possible

18
rewards if they wait to purchase. But a bubble is likely to collapse when investors begin to feel
that prices cannot go higher, demand starts to fade, and this can lead to a big sell-off that drives
prices down quickly.

The second concept is known as the "current bubble," which defined as an instance in which an
asset's price surpasses its intrinsic value by Kim, Hoang, Cap and Duc (2023). An asset's predicted
future cash flows, such as dividends, coupon payments, or rental revenue, are often used to
calculate its fundamental value. The authors claim that bubbles happen when investors are
prepared to pay more for an item that they can sell right away than if they were to hang onto it for
a longer amount of time. This point of view acknowledges that an asset's apparent value is
frequently more closely related to its potential for quick profits than to its actual value. A bubble
is deemed to exist when the market value of a derivative regularly surpasses the expenses
associated with generating identical derivatives. This indicates that the derivative is trading in the
market for more money than it would cost to produce a similar derivative. An example of this kind
of bubble is shown in the difference in option prices. More specifically, a combination of put and
call options that mimic a company's movements may trade at a premium or discount to the price
of the underlying stock, potentially resulting in a bubble. A number of other considerations,
including interest rates and the cost of borrowing the stock, must be included in this pricing
differential. As a result, the emergence of bubbles in a variety of shapes draws attention to how
complicated market dynamics are and intensifies the difficulties in preserving economic stability.

5.3 The issue of ethical finance issue: Irrational exuberance among investors

As mentioned before, ethical finance means the guidelines related to financial and asset
management that the staff must obey to preserve and well manage the assets of the company. The
ethical finance issue started when the staff did something bad that contradicted with the ethical
finance guideline. In this article, the previous researchers have discussed one of the unethical
finance issues which is the irrational behavior among investors.

19
Two types of bubbles can be distinguished when discussing the concept which is partially rational
bubbles and rational bubbles. According to the rational bubble theory, investors buy expensive
assets knowing they would eventually be able to sell them for a profit. According to this idea,
investment behavior can be influenced by anticipation of future returns even in situations where
prices are obviously overpriced. Put differently, sensible bubble investors participate voluntarily
in the bubble because they hope to profit from price gains before to the bubble's inevitable bust.

The idea of partially rational bubbles, which suggests that investor behavior, both rational and
irrational, influences stock prices. Although he acknowledged that certain investors were prone to
irrational exuberance, frequently stoked by sensationalized media reports, he did not imply that
investors are always irrational or "crazy." Instead, societal trends and ephemeral preferences
impact the stock market, perhaps causing bubbles to arise or not.

6.0 CASE STUDY ANALYSIS BASED ON 5 th ARTICLE

Title of article : Factors Affecting Credit Bubbles: A Case Study in Turkey

Authors : Ozge & Elif. (2018)

6.1 The factors of credit bubble

6.1.1 Monetary Policy: Low interest rate

The dangers are significant since credit bubbles always end badly for the market. Therefore,
prudent regulatory actions that restrict credit bubbles ought to be implemented. The
researchers contended that the housing bubble was brought on by the disproportionately low policy
interest rates. Studies, both theoretical and empirical, demonstrate that monetary policies have an
impact on the development of credit bubbles. The literature that is currently available suggests that
taking unreasonable high risks is motivated by two factors which are low interest rates and poor
savings.

20
First off, since low interest rates result in larger payments, the researchers noted that the low rates
encouraged asset managers to take on more risk and so created more opportunities for risk-taking
behavior. The rating impact is the subject of the second mechanism explaining how low interest
rates encourage a high degree of risk-taking behavior. The low short-term interest rates boost the
net interest margin and the firm value of financial firms that take on short-term debt in exchange
for long-term loans. Therefore, the companies take on more risk by expanding their capacity in
order to increase their leverage. Furthermore, the low interest rates raise the guarantee value, which
permits the credits to grow.

Using data from Spanish banks, the researchers investigated the impact of monetary policy on
credit risk and discovered that while low interest rates lowered the risk of outstanding loans in the
short term, they increased the issuance of far riskier loans in the medium term. They established
that there was a negative correlation between interest rates and the willingness of banks to take on
risks in their study of Euro zone banks. Furthermore, their research suggested that banks with
significantly larger equity capital had less of an impact from interest rates on hazardous structures.
They also examined the impact of interest rates on credit risk in relation to Bolivian banks. They
proposed that there was a greater chance of bank credit default due to the drop in federal funds
interest rates in the United States. Tight monetary policy can avoid credit bubbles involving the
risky expansion of intermediary balance sheets.

The Federal Reserve's expansionary monetary policy after 2008 stoked investors' appetite for risk
in international markets, which in turn led to the market's tight equilibrium, low risk premiums,
and, ultimately, asset pricing bubbles. The researchers investigated the actions taken by the central
bank in response to bubbles using the financial accelerator DSGE model. More active monetary
policy was said to have failed to develop the economy's response to the bubbles, and excessive
monetary policy growth was blamed for the creation of asset bubbles by driving up credit and the
risk premium.

21
 7.0 CONCLUSION

In conclusion, when it comes to preserving the cash flows of lending organizations, credit control
is crucial. Imagine a situation in which a lender extends credit to a borrower with a bad credit
history due to an impulsive choice. Given their prior credit history, there is a good chance the
borrower may overlook or postpone making the payments. Should the borrower's inability to return
the debt and make payments persist on a larger scale, the lender may eventually run out of money
and, in the worst situation, may have to close for business. Credit control makes sure that only
potential clients with a solid track record of repaying their debts are given preference. By doing
this, the business will guarantee that it has sufficient liquidity and cash flow to continue operating.

22
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