ECONOMY GREEK ECONOMIC RECESSION Problem • Owes €300bn – 3 yrs of recession • IMF bailout package 2/5 – biggest • €110bn X 3 yrs – ↓ public spending & ↑ tax revenue Source • • • • • • Economic reform 1/1/01 – drachma → € Easy to borrow money – spent more Eg 2004 Athens Olympics – over budget Hit by downturn – more benefits, less taxes Lenders charge higher IR + tax evasion Demonstration – salary cut Solutions • • • • • Bail out succeeds Debt restructuring Greece abandons the € Default Tax reform http://news.bbc.co.uk/2/hi/business/8648456.stm 1997 ECONOMIC CRISIS Problems • Shortage of foreign exchange → values of currencies ↓ • Inadequately developed financial sectors & mechanisms for allocating capital • Effects of the crisis on USA & the world • Role, operation & replenishment of funds from IMF Currency Depreciation Round 1 • Sharp drop in value • Thai, M’sia, Philippine, I’sia • Stabilized → Round 2 Round 2 • Downward pressures • Taiwan, SK, Brazil, S’pore, HK Gov sold FEX rsv & ↑ interest rates Slowed econ growth, interest-bearing securities more attractive > equities Revealed severe problems in banking & financial sectors IMF provided support packages for Thailand, I’sia & SK IMF extended & augmented credit to P’pines Markets are interlinked Impede trade progress & investment liberalization under WTO & APEC forum Significant investments US Interest Exposed weaknesses of Asian financial institutions Involvement in IMF Affect US import + export, capital flow & value of USD IMF Stabilization Packages Strengthen IMF surveillance on member countries’ policies Technical assistance to strengthen financial markets operation Quickly providing policy advice & financial assistance Ensure no member country is marginalized IMF Criticism Exacerbates econ problems One size fits all Decline in public services Remove political autonomy Moral hazard Malaysian Measures IR reduced Statutory rsv requirements reduced Stabilized exchange rate Closing overseas trading of RM Regulating capital flows Maintain financial stability Restructuring • Breathing space • More lending • Increased liquidity • Increased lending by banks • Gov boosted its spending • Pegged RM3.80 to 1USD • Ended currency fluctuations & speculations • Trade of Msian shares in Spore • Ended speculative activities in the currency & local shares • Esp short-term capital outflows • Initial 1-yr moratorium on outflow of foreign portfolio capital & foreign-owned assets • Policy – x close down troubled financial inst. • Announce gov will guarantee deposits • Retain confidence • Est of Danaharta & Danamodal • Revitalize economy 2008 CREDIT CRUNCH Securitization • Loans tied up for decades → banks pool various loans → sellable assets: securities → buyer gets regular payments → banker offload risky loans onto others • Banks borrowed more money to lend out • Investment banks (eg Lehman Bros.) bought mortgages → turned to riskier loans • Rising house prices misled buyers Pricing options • Option – insurance against cons of investing • Black-Scholes model – priced options – easier to trade → explosion of derivatives market • Take more risk to make more money – greed → hedge funds, credit default swaps • No need to pay full actual amount • Big profit on little capital • Big losses → more betting Most analysts link the current credit crisis to the sub-prime mortgage business, in which US banks give high-risk loans to people with poor credit histories. These & other loans, bonds or assets are bundled into portfolios or Collateralized Debt Obligations (CDOs) - & sold on to investors globally Falling house prices & rising interest rates lead to high numbers of people who cannot repay their mortgages. Investors suffer losses, making them reluctant to take on more CDOs. Credit markets freeze as banks are reluctant to lend to each other, not knowing how many bad loans could be on their rivals' books The impact of the sub-prime mortgage crisis is quickly shown to have implications beyond the United States. Losses are felt by investment banks as far afield as Australia. Firms cancel sales of bonds worth billions of dollars, citing market conditions The US Federal Bank and the European Central Bank tries to bolster the money markets by making funds available for banks to borrow on more favorable terms. Interest rates are also cut in an effort to encourage lending But the short-term help does not solve the liquidity crisis - or availability of cash for banks - as banks remain cautious about lending to each other. A lack of credit - to banks, companies & individuals - brings with it the threat of recession, job losses, bankruptcies, repossessions & a rise in living costs. UK bank Northern Rock seeks an emergency loan to stay afloat, prompting a "run" on the bank, as worried customers withdraw £2bn. The bank is later nationalized. In the US, the near-collapse of Bear Stearns leads to a crisis of confidence in the financial sector & the end of investment-only banks Seeking a long-term solution, the US government agrees a $700bn bail-out that will buy up Wall Street's bad debts in return for stake in the banks. The US government plans to borrow the money from world financial markets & hopes it can sell the distressed assets back once the housing market has stabilized The UK government launches its own bail-out, making £400bn extra capital available to eight of the UK's largest banks and building societies in return for preference shares in them. In return for its investment, the government expects to get a stake in the banks - although exactly how much is not quite clear yet Economies around the world are affected by the credit crunch. Governments move to nationalize banks from Iceland to France. Central banks in the US, Canada & some parts of Europe take the unprecedented step of co-ordinating a half-point percent cut in interest rates in an effort to ease the crisis Shares have risen & fallen with news of failures, takeovers and bail-outs. In part, this reflects investors' confidence in the banking system. While bank shares have been hammered because of bad debts, retailers have been hit as consumer confidence is shaken by falling house prices & job insecurity ICELAND Time line http://news.bbc.co.uk/2/hi/europe/7851853.stm Privatized & deregulated banking system Strong gov support – grew 10x Poor enforcement Started borrowing from other banks Opened high IR accounts in UK Used European savers to provide liquidity Financial crisis & lax government - collapse FREE TRADE Principles • Sustained economic growth → human progress • Free markets without gov interference → efficient & socially optimal allocation of resources • Benefits everyone • Privatization removes inefficiencies of public sector • Gov provide infrastructure Criticism • • • • Imbalance in power & decision-making Environmental degradation Eroding workers’ rights Protectionism for the rich