Economic Crisis 2007 .

When Did the Crisis Begin?

When?

2007? 2001? 1999? 1981? 1973? 1971? 1944? 1936?

1936 and Keynes

The year Keynesian Theory was published. Keynes in a letter to G B Shaw boasted economics would never be same again. It was not. Keynes taught spending as salvation, government as savior, deficit finance as the weapon. He asserted unemployment and inflation are mutually exclusive In decades thereafter, the western world took Keynesian advice right. And very wrong.

1944 and Bretton Woods

IMF was established Dollar was accorded the status of the King of Currencies. It was made currency of reserve. Fixed exchange rates establish with currency tied to dollar and dollar to gold. Undervalued currencies distorted trade. US acquired enviable capacity to write cheque on it self. And US used the prerogative abundantly And irresponsibly with excesses in spending and debt. US deficits in budget, in trade, US expanding money supply and US debt wrote the script of crisis.

1971 and Nixon

Nixon closed the gold window ending twenty five years of fixed prices giving way to more excesses and loss of faith in dollar. Smithsonian realignment of currency was short lived.

1973 and Oil Shock

OPEC oil shock changed the macroeconomic of world Oil producing countries acquired upper hand and license to amass wealth US developed vested interest in high oil prices as producer and as beneficiary and keeper of oil wealth. Keynes exclusivity of unemployment and inflation went for a toss creating dilemma and inefficacy of monetary and fiscal policy which aggravates crisis. G7 decided to maintain value of Dollar by intervention

1981 Regan and Deng Xiaoping

Backlash of capitalism and free market not only in the west but in Communist China Deregulation and encouragement to amass wealth Moral Hazard entered the macroeconomic scene with government bailout. 401 (k) and other measures to create equity culture Plaza meeting 0f G7 in 1987 and triggering depreciation of dollar wealth acquired by countries could and did lose its value.

1999 IT bubble, Y2K and Repeal of Glass Steagall Act

IT bubble is born and grows Y2K facilitates outsourcing Power shift Rise of China as Worlds factory and of India as its back office. Accelerates globalization enabled by IT Glass Steagall repealed wiping out demarcating line between commercial banks and investment banks. Invitation to take more risk.

2001, Bush, IT bubble burst and WTC

Bush paints a rosy picture of making America an Ownership Society Refunds $ 168 bn. to no avail Reduces taxes. Rich get $ 450 bn + benefit out of total $ 650 bn cut Capital gains tax rate (15 %) at half the income tax rate (30 %) IT bubble bursts creating mini crisis of confidence Further setback with 9/11 and WTC collapse Initiates Greenspan Put and Housing Bubble.

2007 Crisis Begins with Bursting of Housing Bubble

Followed by Finance Sector Crisis on the Wall Street

Housing Bubble Blew 2004-07

Surge in housing with cheap money, easy mortgage availability and belief that house prices would always rise Sub-prime and NINJA loans ARM and zero and negative equity loans HELOC and Refi loans making existing houses ATM Alt-A loans minimum or no documentation Securitization and the finance bubble

Bubble Grows; Economy Grows

Housing triggers economic growth With cheap money, failure rates fall; falling failure rates trigger more irresponsible lending We have no way to know a bubble till it bursts Alan Greenspan While the music plays, you have to dance Charles Price, CEO Citi Group

Housing Bubble

65 % home ownership in 2001, 69% in 2006 Sub-prime $ 145 billion in 2001 $ 625 billion in 2005 In 1998 Real Estate Agents 718,000; in 2006 1.37 million In 2000 mortgage brokers 240,000; in 2006 418,700

Housing Bubble (Continued)

By 2005, 40 % home purchases for investment or second homes HELOC (Refi) increased from $ 59.1 Billion in 4th qtr 2001 to $ 206.7 billion in 3rd qtr 2004 In fall 2005, Mark Zilbert Miami Realtor launched www.condoflip.com with motto bubbles are for washtubs.

Housing Bubble (Continued)

Mortgages $ 304 billion in 2001, $ 985 billion in 2004, $ 2.9 trillion in 2005. ARM share 12 % of mortgage in 2001 to 19 % in 2004 to 31% in 2005 Foreclosure fell from 1.49 % in third quarter 2002 to less than 1 % in second quarter of 2005 952 days without a bank failure since June 2004

Housing Bubble: Innovative Finance

MBS securities $ 482.4 billion in 2000 increased to $ 2.14 trillion in 2003 Daily trading MBS rose from $ 69.5 billion in 2000 to $ 211.5 billion in 2004 Synthetic CDOs outstripped cash-flow CDOs in 2006 and early 07 CDS $ 1 trillion in 2001 to $ 62 trillion in 2008

I sincerely believe that banking establishments are more dangerous than standing armies.

Thomas Jefferson - 1816

Finance Sector on Steroids

Phenomenal growth of the Wall Street. Dow at all time high of 14,400 + Investment banks reap it rich. Billions of dollars of profits, billions of dollars of bonuses Heavy interdependence High leverage Globalization of finance. Hunger for US assets. Assets-liabilities mismatch. Borrow short in money market, lend / invest long in capital market. Bubble feeds on bubble.

63441421

Humpty Dumpty had a Great Fall

House of Cards Collapses September 2008

Tsunami 2008 A Black Swan?

Bear Stearns folds up in March with high exposure to sub-prime losses Dollar collapses in July 2008. Euro=$ 1.59 Oil at $ 147 a barrel Nero fiddles I am an optimist Bush in July 2008 Avalanche moves. In September, Fannie Mae and Freddie Mac are effectively taken over

Tsunami A Black Swan? Continued

Money market dries. Difference in LIBOR and US 90 days TBs rises to 345 basis points Crisis of confidence in markets. Dow slides Lehman in trouble. Paulson decides to let it fall. On 15th September, Lehman files for Bankruptcy Panic ensues AIG is effectively nationalized with Govt. pumping $ 85 bn in bail out against 80% stock of AIG. Total AIG funding $ 210 bn and counting

Tsunami A Black Swan? Continued

House passes TARP on second attempt Bail out Package of $ 700 billion Meltdown is global Systemic risk implodes Dow at less than 6,500 On October 13th, government recapitalizes banks total support over time $ 350 billion In November Obama wins Presidency.

Asian Development Banks Report on The Cost of the Financial Crisis

A hole of US $ 50 trillion

. and Counting

$1.2 trillion wiped off in losses and writedowns by banks and other financial institutions. $28.7 trillion lost in global derivaties. $6.6 trillion has been wiped from the value of world equities $9.6 trillion wiped off from Asian countries, excluding Japan. $2.1 trillion drop in financial assets of Latin American region

Who Done It
Complexity of multiple causes A character of global world

It is class warfare and my class is winning, but that shouldnt be

Warren Buffet - 2007

Factors that Propelled Bubbles

Capitalist Expansion and Ownership Society Cultural and Political Changes Favoring Business Success New Information Technology Supportive Monetary Policy and Greenspan Put. Cheap money. An Expansion in Media Reporting of Business News

Factors that Propelled Bubbles (Continued)

Analysts Optimistic Forecast. Role of rating agencies. The Expansion of Defined Contribution Pension Plans (401 (k)) The Growth of Mutual Funds Expansion of the Volume of Trade: Discount Brokers, Day Traders and Twenty-Four-Hour Trading The Rise of Gambling Opportunity. Refinancing and flipping.

Factors that Propelled Bubbles (Continued)

Financial innovation. Securitization, packing, repacking, slicing, debt. Alphabet soup of ARM, MBS, ABS, CLO, CDO, CDO squared, cubed, Synthetic CDO, CDS, Alt-A, SIVs, conduits. Global liquidity and global market for debt paper. Enhanced risk taking due to low failure rate. Sub-prime lending

Factors that Propelled Bubbles (Continued)

Baseless optimism on continued rise in prices Moral Hazard Global savings glut (Chinese fund American Excesses) Iraq and Afghanistan Wars (Chinese pay for it) Absence of regulation Domino effect

Factors that Propelled Bubbles (Continued)

Rising Inequality of Income Middle Class Squeeze. Let them eat credit. Increasing gap between rising productivity and constant remuneration.

Wall Street Crisis moves to Main Street

Great Recession and Unemployment

Slowdown

The US and World economies slow down Unemployment mounts to 10 % in US European Debt Crisis further compound woes. Iceland is Bankrupt Greece, Portugal, Spain and Ireland struggle Economic growth in China and India slowdown

Unemployment Story 2008 Continuing

Long Term (> 6 Months) Unemployment

America Imbalance and Unemployment

What Happens Now

Some thing Done A lot more to do and will not be done

Some thing Done

FEDs QE1 (quantitative easing) and QE2. Ballooning FEDs balance sheet. Flooding liquidity. Continued Cheap Money. Total QE $ 2.3 trillion Obamas Stimulus $ 1.9 trillion deficit in 2009, $ 1.4 trillion deficit in 2010 Passes Health-Care Bill Passes Finance and Wall Street Regulatory Bill

Stimulus
Freefall - Stiglitz

A well designed stimulus should

Be fast Be effective Address long term problem Focus on investment Be fair Deal with short term exigencies created by the crisis Be targeted at areas of job loss

Shortcomings of Obama Stimulus Inadequate

$ 800 billion for two years 2009-10 for a $ 14 trillion a year economy was merely 3 % $ 200 billion in 2009 failed to have any impact. The cut back in state budgets in aggregate was almost similar and hence net stimulus was zero. Failed to create jobs. Joblessness remained high.

Shortcomings of Obama Stimulus (Continued)

Too little to meet demand of jobs lost and demand of jobs for new entrants. Economy will be no where close to full employment till may be 2015 State finances in disarray. With job losses and falling property prices, revenue base has shrunk. States are cutting back expenditure offsetting the effect of stimulus

Shortcomings of Obama Stimulus (Continued)

Tax cut has not increased spending as people uses tax cut to repay borrowing or to save with anxiety on jobs Tax cut on cars increased purchases but it only be proponed purchase decision. Cars then bought meant no purchase now.

Finance Reform

Created new agencies to oversee performance, particularly for Consumer Protection. Limited risk taking by defining limits on derivatives (3 % of Capital) Brought Rating Agencies within purview of Consumer Protection and made accountable Brought Insurance within regulatory control. No institution to be too big to fail More transparency and accountability

Finance Reform

Too elaborate Too bureaucratic Already implementation is being watered down. Banks are making profits due to low FED rate and are back to high bonuses and old tricks. Regulators, including Bernanke and Geithner, too close to the Wall Street

The issue is Deficit .

And Debt

A Lot More to Do
But Would not Be Done

Albert Einstein

Problems that are created by our current level of thinking cant be solved by that same level of thinking

To Do Income Equality through Fiscal Reform

Make tax structure progressive and equitable according to ability to pay principle Insist on banks raising more capital and have lesser leverage through tax incentives Capital gains needs to be taxed at same rate as income

To Do Income Equality through Fiscal Reform (Continued)

Increase marginal tax rate from 30 % to 55 % Negative tax to ensure family income of at least $ 35,000 per year Reemployment incentives not unemployment compensation. More spend on skill building and retraining Medicare for all Select reduction in defense expenditure

To Do Income Equality through Fiscal Reform (Continued)

School vouchers of value inverse of income Carbon tax on fossil fuel Student loan repayment as proportion of income and not on amount of loan Strict limit on political funding

The Alternative is
Conservative Backlash and Chaos Global Inflation Repeated bubbles and crisis