lecture 12 - the financial crisis of 2008

8/2/2019 Lecture 12 - The Financial Crisis of 2008

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The Financial CrisisThe Financial Crisisof 2008of 2008

Special Lecture


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The Mortgage brokersThe Mortgage brokers

Mortgage brokers approved credit forall type of customers (including sub-prime loans)

This way they increased theircommission income

brokers absolved themselves of

responsibility by packaging these badmortgages with other mortgages andreselling them as investments.


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Home buyerscontact amortgagebroker

MB Approves loansincluding risky ones toget more commission

Loans are givenby a mortgagebank

(Countrywide,Indy Mac, Fannie& Freddie ,Citibank)

Lenders IssueMortgage backedsecurities (MBS)and sell toinvestment banker

InvestmentBankers (BearStearns, Lehman,Merrill Lynch)classify loansaccording to risklevel called CDO

The AAA CDOs arepaid first incase ofmortgage

defaults, but therate of return islower

The rated CDOs

were sold and junk

kept in SPV


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House Income

Freddie)

Mortgage Lenders(Countrywide, Indy

Mac, Fannie &

Freddie)

Banks(Citibank,

BOA)

Insurance)

Investor

s(Banks,

Funds,

Insurance)

Investment Banks(Bear Stearns, Lehman,

Merrill Lynch)CDOs

MBSs

Mortgage

Subprime

Insurers(AIG)

Rating


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Homeowners Equity vs.Homeowners Equity vs.MortgageMortgage

Source: The Federal Reserve


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Home Price IndicesHome Price Indices

Source: Standard & Poors


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Money started bleedingMoney started bleeding

The defaults caused massive losses inmortgage backed securities

The property prices fell further that

caused slower growth in construction ofnew homes and thousands of jobs werelost

Due to fall in prices of mortgage backed

securities many investors chose to walkaway without paying the loan, increasingfurther the losses of banks


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1111

Write-Offs by Financial Institutions

Unit: Billion Dollars

Merrill Lynch $22.4Citigroup 19.9UBS 14.4Morgan Stanley 9.4

HSBC 7.5Credit Agricole 3.6Deutsche Bank 3.2Bank of America 3.0CIBC 3.0Wachovia 2.7AIG 2.7

Barclays 2.7Royal Bank of Scotland 2.5Credit Suisse 1.9Bear Stearns 1.9JP Morgan Chase 1.4Countrywide 1.0Others 4.6

Total $107.8


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Credit well dried upCredit well dried up

As the losses went up, bankstightened control on credit

Many banks could not survive thebolt and sank under the heavylosses, others merged and some gothelp from govt

Govt did not support all of the fallingfirms


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Pakistan and US financialPakistan and US financialcrisiscrisis

Pakistan escaped from the direct effect ofUS financial crisis

But indirectly, there are several areas of

concern: tightened terms for access to international

debt markets

Slowing world growth rate can effect ourexports

But at the same time, recession will translateinto lower demand which will cause fall in oilprices


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Pakistan economic problemsPakistan economic problems

Pakistans economic problems arenot tied to the current globalfinancial crisis

The main economic problems ofPakistan are:Trade deficit

Budget deficitCurrency devaluation

Inflation

lecture 12 - the financial crisis of 2008

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