CRISE 2008: RHUME OU CANCER ?

2008 CRISIS : COLD OR CANCER?MARTIAL FOUCAULTUniversit de Montral

28 juin 2010

1Plan of the talkCrisis: what does it mean?The American financial crisis followed by a worldwide economic crisisMarket and StateLessons for capitalism2Plan of the talkCrisis: what does it mean?The American financial crisis followed by a worldwide economic crisisMarket and StateLessons for capitalism3Financial crisisBanking Crises

Bankruptcy

Inability to pay debts.OR

Run on the Bank , Credit Crunch

Financial crisisEconomic Crises

An economic crisis can take the form of a recession or a depression.

Economic Crisis will most likely experience a falling GDP, a drying up of liquidity and rising/falling prices due to inflation / deflation

Financial crisisSCapital Market Bubbles/Crashes

Market Price of stocks are higher than present value of future Cash flows.

A dramatic decline of stock prices in a market. Crashes are driven by panic as much as by underlying economic factors

Financial crisisCurrency Crisis

A currency crisis occurs when the value of a currency changes quickly, undermining its ability to serve as a Medium of exchange or a Store of value.

Financial crisisA Short History

Stock Market CrisisBank Crisis 1910: Shanghai rubber stock market crisis

1929: Wall Street Crash

1980: Japanese property bubble

1980: Latin American debt crisis; beginning in Mexico

1989-91: United State Saving & Loan CrisisEconomic CrisisCurrency Crisis 2001-2: Argentine economic crisis [breakdown of banking system]

1994-5 Economic Crisis in Mexico, speculative attack and default on Mexico Debts1992-3: Speculative attacks on currencies in the European Exchange Rate Mechanism

A short crisis ?9

28.500.000 hits for "recession is over

Jul 25, 2009The Recession Is Over SlateThe Recession Is Over!What America's best economic forecaster is saying.By Daniel GrossPosted Tuesday, July 14, 2009

Sept. 15, 2009Bernanke declares 'recession is very likely over'Unfortunately, unemployment will come down slowly

The roots of the crisisEasy access to cheap borrowing combined with:low interest rates (since the collapse of the internet bubble)null regulation (Glass-Steagall Act in 1999)Fundamentals of the US economyLow level of savings rateUnbalanced international trade Excessive private consumptionFinancial sector oriented economyLast transformation of the American dream capitalismRisk value: new sources of profit

11Water in the damAsset price bubbles are not rare in history (tulip speculation in Netherlands, share prices in the 1920s, dotcom bubble)

Low US interest ratesLow Japanese interest rates

Impact of China and sovereign wealth funds (state-owned investment fund composed of financial assets such as stocks, bonds, property, precious metals or other)

12Why low interest rates?Economic boost?Laxist monetary policy?Stop increasing Wages ?13

European responses different from the US policy: Competition race? More cautious Euro zone?

Easy mortgage: subprimesA myriad of actorsSubprime borrowingCredit score (good borrower vs. bad borrower)Adjustable-rate mortgagesExpectations that house prices would rise faster than loan ratesSubprime crisis once mortgages securitizedRMBS (Residential Mortgage Backed Security)SPV (Special Purpose Vehicle)Things can go wrong14Explosion in mortgage assets, USA15

2004: beginning of the endHousing market16

The crisis goes on17

Why did banks create these securities?How banks work?

Is there a risk for not getting back my money?Basel capital rules (Basel I in 1998 and Basel II in 2004)

In the 1990s, they changed their core businessTrading incomeIncreasing fees from mortgage securitization

A new financial capitalism is born

18Explosion in mortgage assets, USA19

2004: beginning of the endFinancial (De)regulationNew US policies to encourage home ownershipChanges to Fannie Mae and Freddie Mac rulesChanges to rules on investment banksPublication of Basel II proposals

20ConsequencesA US CREDIT CRUNCH followed by an ECONOMIC CRISIS2122

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Bad times for the economyMacroeconomic consequencesMicroeconomic consequencesFinancial consequencesPolitical consequences 24Macroeconomic consequencesGDP growthPublic DebtUnemploymentIncome inequalities25GDP impact

26Despite ongoing shocks to the global economic system, the Great Depression has not been repeated. Have we been smart or just lucky?The record after 1945 suggests to many that the beast has been more or less tamed. Yet, the stresses that brought on depressions in the past have not disappeared, despite over a half century of changes in public policy, international agreements between nations and a continuous expansion of our technological ability to achieve productivity gains. We need to develop a complete understanding of what those stresses are and how they might be significantly reduced.

More recently27

GDP decrease in developped countriesTable 1.1 The global outlook in summary(percentage change from previous year, except interest rates and oil price)20082009e2010f2011f2012f20082009201020112012Real GDP growth 5World1,7-2,13,33,33,5Memo item: World (PPP weights) 61,3-0,44,24,04,3High income0,4-3,32,32,42,7OECD Countries0,3-3,42,22,32,6Euro Area0,4-4,10,71,31,8Japan-1,2-5,22,52,12,2United States0,4-2,43,32,93,0Non-OECD countries3,0-1,74,24,24,5Developing countries5,71,76,26,06,0East Asia and Pacific8,57,18,77,87,7China9,68,79,58,58,2Indonesia6,04,55,96,26,3Thailand2,5-2,36,24,05,0Europe and Central Asia4,2-5,34,14,24,5Russia5,6-7,94,54,84,7Turkey0,7-4,76,34,24,7Poland4,81,73,03,74,0Latin America and Caribbean4,1-2,34,54,14,2Brazil5,1-0,26,44,54,1Mexico1,8-6,54,34,04,2Argentina7,0-1,24,83,44,428Public debt levels29

Confidence erroded30

Bank lending growth31

Labor still prime affected32Crisis and unemployment33

Crisis and income inequalities in the US34

How the crisis affected global trade?35

Growth in World merchandise exports trade by region (Year to year % change in dollar values)Volume of world merchandise exports, 1965-2009(Annual % change)Microeconomic consequences I36

Bank FailuresMicroeconomic consequences II37

Time-lags: Schematic comparison of stock markets, employment,public revenues and public debtOctNovDecJanFebMarAprMayJuneJulAugSepOctNovDecJanFebMar200820092010Stock markets???Public revenues?Public debt?G20G20G20uncertainties????EmploymentTo sum upBasic story of the crisis:Causes of mortgage bubbleRole of the financial sectorManage risksAllocate capitalRun payment mechanismsRegulatorsInsufficient regulationsSpecial interestsEconomics as a not so credible science

39Lessons for CapitalismPermanent sources of crisis:InformationConfidenceCorporate governanceMarket and StatesCapitalism and self-regulationGovernments are strongly exposed4041

1. GENERAL ASSESSMENT OF THE MACROECONOMIC SITUATION

OECD ECONOMIC OUTLOOK 86 OECD 200936

2009a). This decline in hours worked has helped to limit the loss ofemployment, especially in continental Europe, in marked contrast to theexperience of previous major recessions (see Box 1.3). Conversely, in theUnited States, the fall in activity has translated into job suppressions to anunusual degree, despite some reduction in average hours worked. Thesedifferent profiles are projected to help shape employment trends duringthe upturn, with job growth resuming earlier and at a more rapid pace in

Table 1.4. Labour markets conditions will turn up slowly

1 2http://dx.doi.org/10.1787/752174002368

2006 2007 2008 2009 2010 2011

Percentage change from previous period, seasonally adjusted at annual rates

Employment United States 1.9 1.1 -0.5 -3.6 -0.5 1.7 Japan 0.4 0.5 -0.4 -1.8 -0.9 0.0 Euro area 1.6 1.8 1.0 -1.6 -1.1 -0.1 OECD 1.7 1.5 0.7 -2.0 -0.6 0.9 Labour force United States 1.4 1.1 0.8 0.0 0.3 0.8 Japan 0.1 0.2 -0.3 -0.5 -0.5 -0.1 Euro area 0.9 0.9 1.1 0.4 0.2 0.2 OECD 1.2 1.0 1.0 0.4 0.2 0.6

Unemployment rate Per cent of labour force United States 4.6 4.6 5.8 9.2 9.9 9.1 Japan 4.1 3.9 4.0 5.2 5.6 5.4 Euro area 8.3 7.5 7.5 9.4 10.6 10.8 OECD 6.0 5.6 5.9 8.2 9.0 8.8

Source: OECD Economic Outlook 86 database.

Figure 1.12. Unemployment will remain high in the OECDPercentage of labour force

Source: OECD Economic Outlook 86 database.1 2 http://dx.doi.org/10.1787/748675518082

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10NAIRU Unemployment