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Understanding Finance: Money, Investment, Credit & More

Dive into fundamental financial concepts like money, investment, credit, assets, and securities. Explore the role of banks, risks in loans, and solutions like deposit insurance and regulation. Learn about financial crises and the impact of financialization.

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Understanding Finance: Money, Investment, Credit & More

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  1. Lecture 10 Thursday, October 2 Finance

  2. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  3. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  4. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  5. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  6. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  7. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  8. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  9. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  10. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  11. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  12. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  13. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  14. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  15. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  16. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  17. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  18. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  19. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  20. The U.S. Financial System

  21. Trend #1:Financialization

  22. Real Corporate Profits, financial versus nonfinancial sectors Financial sector profits 1980=100 Nonfinancial profits

  23. 2009

  24. Trend #2:Rapid growth of earnings in the financial sector

  25. Trend #3:Declining regulation

  26. Trend #4:Growth in size of financial institutions

  27. Changes over time in concentration of banking, 1935-2007 Repeal of Glass-Steagall banking restrictions Total assets of top three U.S. banks as a percent of total commercial banking assets

  28. Trend #5:Financial Innovation

  29. The Financial Crisis of 2007-2009

  30. The nature of the housing market • Mortgage loans • Risks and Foreclosures • Mortgage backed securities • Speculative markets in housing & Mortgage backed securities

  31. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  32. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  33. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  34. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  35. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  36. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  37. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  38. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  39. Magnitude of the crisis

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