Global Meltdown And India An Insight

1. Global Meltdown And India An Insight

2. Economic Meltdown : The Beginning The term that we all used to come across very often in the recent past was global economic meltdown. This has gained the attention of all intellectuals, economists, and scholars to debate on this and to come up with sound understanding about the matter concerned. Every now and then we are filled up with curiosity intended to find out causes, which are held responsible for such severe financial crisis. There is near unanimity that the recent global economic crisis had its roots from the mortgage market crisis in the United States of America, USA.   The crisis began with the bursting of the US financial system and high default rates on “subprime” and adjustable rate mortgages in 2005-2006. By late 2006, interest rates had begun to rise with housing prices dropping moderately as re-financing became more difficult. The global financial crisis started to show its effects in the middle of 2007 and to 2008.All world stock markets had fallen, large financial institutions had been collapsed or bought out.

3. SUBPRIME LENDING The mortgage market in the US is fuelled by what they refer to as “subprime” lending. Subprime lending is the practice of lending, basically in the form of mortgages for the purchase of residences, to borrowers who do not meet the usual criteria of borrowing the money at the cheapest prevailing market rate of interest.  The root cause of the crisis was primarily an unregulated, undisciplined environment dealing with mortgage lending to subprime borrowers. Since the borrowers did not have adequate repaying capacity and also because subprime borrowing had to pay two-to-three percentage point’s higher rate of interest and they have a history of default, the situation became worse. But once the housing market collapsed, the lender institutions saw their balance-sheets go into red.

4. Starting in Wall Street, others followed quickly. With soaring profits, all wanted in, even if it went beyond their area of expertise. Banks borrowed even more money to lend out so they could create more securitization. Some banks didn’t need to rely on savers as much then, as long as they could borrow from other banks and sell those loans on as securities; bad loans would be the problem of whoever bought the securities. Some investment banks like Lehman Brothers got into mortgages, buying them in order to securitize them and then sell them on. Some banks loaned even more to have an excuse to securitize those loans. Running out of whom to loan to, banks turned to the poor; the subprime, the riskier loans.

5. Rising house prices led lenders to think it wasn’t too risky; bad loans meant repossessing high-valued property. Subprime and “self-certified” loans (sometimes dubbed “liar’s loans”) became popular, especially in the US. • Some banks evens started to buy securities from others. • Collateralized Debt Obligations (even more complex forms of securitization) spread the risk but were very complicated and often hid the bad loans. While things were good, no one wanted bad news.

6. CONCEPT OF 5CS & C-A-M-P-A-R-I OF CREDIT RISK ANALYSIS • In credit risk analysis, every loan request is subjected to the 5Cs of credit: Capital, Character, Capacity, Collateral and Condition. Another tool, which is referred by C-A-M-P-A-R-I: Character, Ability, Margin, Purpose, Amount, Repayment, and Insurance. • Credit risk analysis suggests that only after an acceptable score based on the above tools, lender should decide how much money to lend or even they may deny lending if score is below standards. But these are deliberately jettisoned under the subprime regime. If a mortgage-borrower is not able to make repayments as and when due, the lender can take possession of the residence acquired using the mortgage proceeds, in a process called foreclosure. • A redeeming feature of the recent crisis was that magnitude of this crisis was much lesser than that of the Great Depression of the 1930s when unemployment rate in the United States exceeded 25 percent. But this time it was at 8.6 percent and was predicted to remain around 10-11 percent till the end ofs 2009.

7. ECONOMIC MELTDOWN BECAME GLOBAL: PHASE OF SEVERE CRISIS The extent of the problems had been so severe that some of the world’s largest financial institutions had collapsed. Others were bought out by their competition at low prices and in other cases, the governments of the wealthiest nations in the world resorted to extensive bailout and rescue packages for the remaining large banks and financial institutions. The total amounts that governments had spent on bailouts were just sky rocket. From a world credit loss of $2.8 trillion in October 2009, US taxpayers alone spent some $9.7 trillion in bailout packages and plans, according to Bloomberg. $14.5 trillion, or 33%, of the value of the world’s companies had been wiped out by this crisis. The UK and other European countries had spent some $2 trillion on rescues and bailout packages.

9. It should be noted that during the debilitating Asian financial crisis in the late 1990s, Asian nations affected by short-selling complained, without success that currency speculators operating through hedge funds or through the currency operations of commercial banks and other financial institutions were attacking their currencies through short selling and in doing so, bringing the rates of the local currencies far below their real economic levels. However, when they complained to the Western governments and International Monetary Fund (IMF), they dismissed the claims of the Asian governments, blaming it on their own economic mismanagement instead. Other governments moved to try and reassure investors and savers that their money is safe. In a number of European countries, for example, governments tried to increase or fully guarantee depositors’ savings. In other cases, banks were nationalized (socializing profits as well as costs, potentially.)

10. There seemed a little sympathy and even increased resentment for workers working in the financial sector, as they were seen as having gambled with other people’s money, and hence lives, while getting fat bonuses and pay rises for it in the past. Although in raw dollar terms the huge pay rises and bonuses were small compared to the magnitude of the problem. Such practices were given encouragement in the past and the type of culture it created, had angered so many people.

11. ROLE OF DEVELOPED ECONOMIES AND MELTDOWN • Many blamed the greed of Wall Street for causing the problem in the first place because it was in the US, the most well known banks, institutions and ideologues that pushed for the policies that caused the problems. • The crisis became so severe that after the failure and buyouts of major institutions, the Bush Administration offered a $700 billion bailout plan for the US financial system. • This bailout package was controversial because it was unpopular with the public, seen as a bailout for the culprits while the ordinary person would be left to pay for their folly. • The US House of Representatives initially rejected the package as a result, sending shock waves around the world. It took a second attempt to pass the plan, but with add-ons to the bill to get the additional congressmen and women to accept the plan. • However, as former Nobel Prize winner for Economics, former Chief Economist of the World Bank and university professor at Columbia University, Joseph Stiglitz, argued, the plan “remains a very bad bill”

12. THE ECONOMIC CRISIS & THIRD WORLD NATIONS • The rise in food prices as well as the knock-on effects from the financial instability and uncertainty in industrialized nations was having a compounding effect. • High fuel costs, soaring commodity prices together with fears of global recession worried many developing country analysts • Countries in Asia were increasingly worried about what was happening in the West. • A number of nations urged the US to provide meaningful assurances and bailout packages for the US economy, as that would have a knock-on effect of reassuring foreign investors and helping ease concerns in other parts of the world. • Asia has had more exposure to problems stemming from the West. • Many Asian countries had seen their stock markets suffer and currency values going down. Asian products and services are also global, and a slowdown in wealthy countries means increased chances of a slowdown in Asia and the risk of job losses and associated problems such as social unrest.

13. WIDESPREAD IMPACT OF MELTDOWN & INDIA • Banks with shaken confidence in lending money at higher interest rates with unfavourable conditions were affected considerably. • The Sensex dipped below the 9000-mark to a low of 8941, and was down 700 points at 9071. ( as on 24 Oct’ 2008) • People found their mortgages or borrowing harder to pay, this meant repaying could not be easy for them. • Many sectors faced the credit crunch and higher costs of borrowing led to job cuts. As people were forced to reduce their consumption in order to face and bear present economic thrust, at the same time businesses were struggling to survive leading to further fears of job losses. • There was belief that the crisis has hit the advanced economies and will have very less effect on the emerging economies like India, and this was due to the fact that the emerging economies have continuously believed in maintaining substantial foreign exchange reserves, have an updated and improved policy framework, robust corporate balance sheets and a relatively healthy banking sector. • Our banking system did not have any direct exposure to the mortgage drama or to the sub-prime crisis or to the failed financial institutions.

14. The major banks of India have very limited off-balance sheet activities or securitized assets, so they continue to be safe and healthy. • The other fact which is a healthy sign of our economic system is that the substantial growth India showed in the past one decade was driven by domestic consumption and domestic investment and India’s dependence on external demand has been very limited and this can be estimated by the merchandise export which accounts for less than 15 % of our GDP. • These fundamental strengths are still in place and will continue to be so. But, now there is a definite dent in the growth curve of India and this is inevitable because in the last one year investments and exports were considerably low. • India’s financial integration into the global economy is deeper than what it seems to be on the surface. The Indian corporate sector has largely borrowed from developed economies because funds are available at a lower cost in comparison to domestic one. • In 2007-08 India had received a capital inflows amount to over 9% of GDP’s as against the account deficit in the balance of payments of just 1.35% of GDP.

15. The crisis had an impact on India because of its integration into global economy. • The crisis was contagious causing pressure to India’s financial market and hampering the confidence level of investors. • We have seen that the Government and RBI have closely worked to reduce the overwhelming impact of recession on our country by keeping comfortable rupee liquidity position, augmenting foreign exchange, and maintaining a policy framework that would keep credit delivery on track so as to ensure balanced growth. • Among the many unconventional measures taken by the RBI the most important one was the rupee-dollar swap facility for Indian banks to give them a comfort in managing their short-term foreign funding requirement. • The overall outcome of the monetary measures taken by the RBI or the Government since mid September 2008 was that it enabled to keep the Indian financial market function in an orderly manner.

16. The environment was ever optimistic that India would recover through the crisis more rapidly than the developed countries and as we discussing here, it has already moved towards full recovery. • The government conceded that half a million jobs had been eliminated during the last one year, in the "globalised" sectors of the economy, including the textile, gem and jewelry, and auto industries and in business processing units across the globe. • The impact of the crisis was very evident on the job market here. • Commerce Minister Kamal Nath had warned at the initial phase of recession that 1.5 million jobs in export-oriented industries could be eliminated. • There was a period where painful adjustments were required and it was in the hands of the government and RBI to manage the adjustments so that the people face as little pain as possible.

17. It has seen that financial meltdown directly leads to social meltdown and that affect the overall health of a nation. However, once the global economy began to recover, India turned around faster than expected because it has strong fundamentals and untapped growth potential. .

18. CONCLUSION • It’s a widespread understanding that indiscipline and inappropriate ways to lend money, merely to show future returns and profitability, were the reasons in the background of the crisis. • It is quite significant to know that possibility of another economic meltdown can not be overruled and this time the intensity of crisis would be much severe, so the policy makers across the globe need to respond accordingly. • There were instances where the Governments and Central banks across the countries had responded to this economic crisis through big, aggressive and unconventional measure, but we yet could not able to see the desired result. • The world economic crisis continued to have toiled the Indian economy, damaging both its immediate and long-term prospects. The social meltdown is triggered by the job losses across most of the organizations, causing family break-ups, mental breakdown etc. • Therefore, it can be suggested that concrete measures must be taken by governments to strengthen present economic and financial system with intention to avoid such severe mishappening in coming days.

19. Thank You