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The Financial Crisis of 2008 By Franz Soerensen

The Financial Crisis of 2008 By Franz Soerensen. The Creation of the bubble (1 of 8). Prior to deregulation fewer could get mortgages (Ferguson) Lenders wanted their money back, so they were careful with who they lended it to ( Leonhardt )

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The Financial Crisis of 2008 By Franz Soerensen

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  1. The Financial Crisis of 2008By Franz Soerensen

  2. The Creation of the bubble (1 of 8) Prior to deregulation fewer could get mortgages (Ferguson) Lenders wanted their money back, so they were careful with who they lended it to (Leonhardt) This stopped when the banks, who created the mortgages, began selling the mortgages to investment banks It was no longer the banks’ problem if they didn’t get their money back (Ferguson)

  3. The Creation of the Bubble (2/8) Old System Banks Money Qualified borrowers Money back with interest

  4. The Creation of the Bubble (3/8) Investment banks created CDO’s (Collateralized Debt Obligations) CDO’s were many different kinds of loans stacked together Investors would then buy the CDO’s (Leonhardt) Investors now collected payments from the borrowers (Ferguson)

  5. The Creation of the Bubble (4/8) Many investors bought CDO’s, because they often received the highest rating possible (triple-A) (Ferguson) Investors then insured their CDO’s by buying Credit Default Swaps produced by AIG (Ferguson) When purchasing a credit default swap, you would have to pay AIG a quarterly premium, and if your CDO failed, AIG would finance the loss (Ferguson) The increasing number of loans being made, because no one cared about getting their money back, led to the creation more CDO’s to insure (Ferguson) Speculators also betted against the CDO’s by insuring other’s CDO’s (Ferguson)

  6. The Creation of the Bubble (5/8) So if a lot of CDO’s failed AIG would have to cover a lot of losses, and that’s what happened (Ferguson) What made this an even bigger problem when many CDO’s failed was that AIG didn’t have any money in reserve for bad times (Ferguson) Which was only possible because the bussiness wasn’t regulated, and therefore there were no requirements for AIG to have anything in reserve (Ferguson)

  7. The Creation of the Bubble (6/8) New System Investment banks Borrowers Banks Money for mortgage Money for CDO’s* Payment with interest Investors *CDO’s insured by AIG through credit default swaps to eliminate risk

  8. The Creation of the Bubble (7/8) A simple system, where it was transparent how money was flowing and who was carrying the risk, was replaced by a complex system, where it was unclear who was holding the risk Now when anyone could get a mortgage loan, anyone could buy a house (Ferguson) This led to increasing house prices, and the continuos increasing houseprice reduced the risk if the mortgage could not be baid back (Ferguson) The reduced risk made it more attractive to make more mortgages to less qualified borrowers (subprime mortgages) (Leonhardt)

  9. The Creation of the Bubble (8/8) House Price Bubble Increasing house price Reduced riskofmortgage failure Easy mortgage (subprime)

  10. Why was it possible to get easy loans? • Since the 1980’s the financial sector has been deregulated with the basic idea that the banks who understood to handle the risk would be the most successful (Ferguson) • Since then more subprime loans were made more available. They held a higher interest rate due to higher risk. They became attractive to investors due higher interest, while the risk could be diversified through CDO’s and insured through credit default swaps (Ferguson)

  11. How didtheObamaadministrationrespondtothe Crisis? • During Obama’s2008election campaign,heusedregualtoryfailureandwallstreetgreedassomeoftheexamplesforneededchangeintheUS (Ferguson) • Whiletheproblemshavebeen identified,sofarthemajorityoftheactionshavebeenfocusedonpreventingacollapseofthefinancialsystem (e.g.Capital injection) (Ferguson)

  12. What were some immediate consequences of the Crisis • Collapse in house prices • Failure of borrowers to pay back their loans • AIG failing to pay insurances • Foreclosures • Government bail out of banking system to prevent collapse

  13. What are the long term consequences of the Crisis? • Many people outside and inside the US fear lack of job opportunities and rising prices due to inflation (Pew Research Center) • Unemployment remains quite high inside and outside Europe (Krugman 6)

  14. Who aretoblameforthe crisis? • I think both the regulators and the financial institutions have made mistakes, probably not aware it • Regulators have given the banks to much freedom • Financial institutions have exploited their freedom in the interest of short term profits

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