A Study On Economic Crisis

8/9/2019 A Study On Economic Crisis

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A STUDY ON

ECONOMIC CRISIS

BY SHELBY SHAJAHAN


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CONTENTS

DEFINITION OF ECONOMIC CRISIS

CAUSES OF FINANCIAL CRISIS

EFFECTS OF ECONOMIC CRISIS

ECONOMIC CRISIS IN AMERIC

ECONOMIC CRISIS IN INDIA

ECONOMIC CRISIS IN U.A.E

ECONOMIC CRISIS IN FUTURE


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DEFINITION

The term financial crisis is applied broadly to a variety of situations in which some financial

institutions or assets suddenly lose a large part of their value. In the 19th and early 20th

centuries, many financial crisis were associated with banking crisis (banking panic), and

many recessions coincided with these panics. Other situations are often called financial

crisis include stock market crashes and the bursting of other financial bubbles, currency

crisis, and sovereign default.Financial crises directly result in a loss of paper wealth; they

do not directly result in changes in the real economy unless a recession or depression

follows.Many economists have offered theories about how financial crisis develop and how they

could be prevented. There is little consensus, however, financial crisis are still a regular

occurrence around the world.

Financial crisis are of several types banking crisis, speculative bubbles and crashes,

international financial crisis, wider economic crisis.

Banking crisis

When a bank suffers a sudden rush of withdrawals by depositors, this is called a bank run.

Since banks lend out most of the cash they receive in deposits, it is difficult for them to

quickly pay back all deposits if these are suddenly demanded, so a run may leave the bank

in bankruptcy, causing many depositors to lose their savings unless they are covered by

deposit insurance. A situation in which bank runs are widespread is called a systemic

banking crisis or just a banking panic. A situation without widespread bank runs, but in

which banks are reluctant to lend, because they worry that they have insufficient funds

available, is often called a credit crunch. In this way, the banks become an accelerator of a

financial crisis.

Speculative bubbles and crashes

Economists say that a financial asset (stock, for example) exhibits a bubble when its priceexceeds the present value of the future income (such as interest or dividends) that would bereceived by owning it to maturity If most market participants buy the asset primarily in hopes


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of selling it later at a higher price, instead of buying it for the income it will generate, thiscould be evidence that a bubble is present. If there is a bubble, there is also a risk ofa crash in asset prices: market participants will go on buying only as long as they expectothers to buy, and when many decide to sell the price will fall. However, it is difficult to tell inpractice whether an asset's price actually equals its fundamental value, so it is hard todetect bubbles reliably. Some economists insist that bubbles never or almost never occur.

International financial crises

When a country that maintains a fixed exchange rate is suddenly forced to devalue its

currency because of a speculative attack, this is called a currency crisis or balance of

payments crisis. When a country fails to pay back its sovereign debt, this is called

a sovereign default. While devaluation and default could both be voluntary decisions of the

government, they are often perceived to be the involuntary results of a change in investor

sentiment that leads to a sudden stop in capital inflows or a sudden increase in capital flight.

Several currencies that formed part of the European Exchange Rate Mechanism suffered

crises in 1992-93 and were forced to devalue or withdraw from the mechanism. Another

round of currency crises took place in Asia in 1997-98. Many Latin American countries

defaulted on their debt in the early 1980s. The 1998 Russian financial crisis resulted in a

devaluation of the ruble and default on Russian government bonds.

Wider economic crises

Negative GDP growth lasting two or more quarters is called a recession. An especially

prolonged recession may be called a depression, while a long period of slow but notnecessarily negative growth is sometimes called economic stagnation.

Declining consumer spending.

Since these phenomena affect much more than the financial system, they are not usually

considered financial crises per se. But some economists have argued that many recessionshave been caused in large part by financial crises. One important example is the Great

Depression, which was preceded in many countries by bank runs and stock market crashes.


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The subprime mortgage crisis and the bursting of other real estate bubbles around the world

have led to recession in the U.S. and a number of other countries in late 2008 and 2009.

Nonetheless, some economists argue that financial crises are caused by recessions instead

of the other way around. Also, even if a financial crisis is the initial shock that sets off a

recession, other factors may be more important in prolonging the recession. In

particular, Milton Friedman and Anna Schwartz argued that the initial economic decline

associated with the crash of 1929 and the bank panics of the 1930s would not have turned

into a prolonged depression if it had not been reinforced by monetary policy mistakes on the

part of the Federal Reserve, and Ben Bernanke has acknowledged that he agrees.


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CAUSES

MARKET INSTABILITYThe recent market instability was caused by many factors, chief among them a dramatic

change in the ability to create new lines of credit, which dried up the flow of money and

slowed new economic growth and the buying and selling of assets. This hurt individuals,

business, and financial institutions .Many financial institutions were left holding mortgage

backed assets that had dropped precipitously in value and werent bringing in the amount of

money needed to pay for the loans. This dried up their reserve cash and restricted their

credit and ability to make new loans.

Another main cause of crisis is the expense become more than income.

HOW DID IT GET SO BAD?

Greed: The American Economy is built on credit is a great tool when used wisely. For

instance, credit can be used to start or expand a business, which can be used wisely. For

instance, credit can be used to start or expand a business, which can be used to start or

expand a business, which can create jobs. It can also be used to purchase large ticket items

such as houses or cars. Again, more jobs are created and peoples needs are satisfied. But

in the last decade, credit went unchecked in our country, and it got out of control.

Thousands of people took out loans larger than they could either flip the house for profit

or refinance later at a lower rate and with more equity in their home-which they would then

leverage to purchase another investment house.

A lot of people got rich quickly and people wanted more. Before long, all you needed to

buy a house was a pulse and your word than you could afford the mortgage. Brokers had no

reason not to sell you a home. They made a cut on the sale, then packaged the mortgage

with a group of other mortgages and erased all personal responsibility of the loan. But manyof these mortgage backed assets were ticking time bombs. And they just went off.

HISTORICAL BAKGROUND


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The initial liquidity crisis can in hindsight be seen to have resulted from the incipient

subprime mortgage crisis, with the first alarm bells being run by the 2006 HSBC results. The

crisis was widely predicted by a number of economic experts and other observers, but it

proved impossible to convince responsible parties such as the Board of Governors of the

federal reserve of the need for action.

One of the first victims was Northern Rock, a major British Bank. The highly leveraged

nature of its business led the bank to request security from the Bank of England. News of

this lead to investor panic and a bank run in mid-September 2007 calls by Liberal Democrat

shadow chancellor Vince cable to nationalize the institution were initially ignored, however

in feb-2008, the British was taken into public hands. Northern Rocks problems proved to be

an early indication of the troubles that would soon befall other banks and financial

institutions.


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EFFECTS

By years end, the impact of global financial crisis of 2008 was starting to be felt in the

developing world, with slowdowns expected in all emerging economies. There growth

declines could have significant effects on the worlds poorest populations. The World Bank

estimates that a 1% decline in developing country growth rates traps in additional 20 million

people in poverty. Reduced economic growth in both countries could reserve poverty

alleviation efforts and even push more people into poverty, say some experts. The financial

crisis has also likely made the achievement of the united Nations Millennium Development

Goals (MDGs) on poverty-to halve the proportion of people in extreme poverty by 2015-more difficult.

In the developing world as a whole, economists say that soaring food and fuel prices

were already placing strain on the poor prior to the onset of the financial crisis. The UN

world program estimated in September 2008 that there are 850 million chronically hungry

people in the world, a tally that could increase by 130 million this year (PDF). The World

Bank estimates that the number of poor increased by at least 100 million as a result of the

food and fuels crisis. It argues that declines in food and fuel prices in late 2008 have not

solved the problem. According to its November 2008 report, the poorest households wereforced to switch from more expensive to cheaper and less natural and nutritional foodstuffs,

or cut on total caloric intake altogether, face weight loss and serve malnutrition.


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CRISIS IN USA

In 2005, the personal savings rate in America hit a post Great Depression low of negative

5%-people were spending more than they were earning. The reduced savings rates were

offset at the time by increasing real estate values and a growing national deficit of more

than $9 trillion, which was temporarily propped up by lending from foreign nations.

The basic problem is extreme financial engineering that has been taken too far as peoplethought there was no limit to such engineering, as we know to be case of engineering in the

other fields in the real world. Engineering actually involves human skills and physical

materials to get some products, such as a bridge to connect two sides of the river, construct

a house or an airplane to fly. Financial engineering is devising financial products out of

money to sale and buy by financial houses mainly. The modern banking system was the

first such engineering-devising proportional reserve system in banking history. That is

banking keeps 10-20% of depositors money cash and they lend the rest to customers at

interest rates to cover the interest to be paid to depositors and dividend to the

shareholders/owners. This is engineering because as an individual no one would borrowand then lend to someone even if they are well known. It is engineering because what we

do not do individually we allow banks to do that collectively on our behalf. Hence banks are

considered so essential in a modern economy, including their other services.


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CRISIS HURTING INDIA-BUT BANKSSAFE

Prime Minister Manmohan Singh has admitted that the global economics turbulence has

begun to hurt India. Singh met top industry leaders and asked them to remain cautious but

also assured them that the banking systems and deposits were safe and the government

would take more steps to protect economic growth.The government is closely monitoring the evolving macro economic situation and is fully

alive to its responsibilities to sustain the growth momentum of the economy at a reasonable

rate, the Prime Minister assured industry leaders.

When the financial crisis erupted in a comprehensive manner on Wall Street, there was

some premature triumphalism among Indian policymakers and media persons. It was

argued that India would be relatively immune to this crisis, because of the strong

fundamentals of the economy and the supposedly well-regulated banking system. This

argument was emphasized by the Finance Minister and others even when other developingcountries in Asia clearly experienced significant negative impact, through transmission of

stock market turbulence and domestic credit stringency.

The recent crash in the Sensex is not simply an indicator of the impact of international

contagion. There have been warning signals and signs of fragility in Indian finance for some

time now, and these are likely to be compounded by trends in the real economy. So far the

RBI has claimed that the exposure of Indian banks to assets impaired by the financial crisis

is small. According to reports, the RBI had estimated that as a result of exposure to

collateralized debt obligations and credit default swaps, the combined mark-to-marketlosses of Indian banks at the end of July was around $450 million. International banks and

financial institutions in the US and EU are important sources of demand for such services,

and the difficulties they face will result in some curtailment of their demand. Further, the

nationalization of many of these banks is likely to increase the pressure to reduce

outsourcing in order to keep jobs in the developed countries.


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CRISIS IN UAE

The world financial crisis has hit Dubais economy, slamming the brakes on its surgingdevelopment and dimming its gold rush status. Development projects are being delayed

tourism is expected to decline and the government is even exploring how to begin collecting

taxes, once almost unthinkable in this freest of free market enclaves.

At the highest levels, Dubai and Abudhabi worked together to transform Dubai into a

global destination for investment and development. But there was also an undercurrent of

competition, with Abudhabi taking a slower, more conservative, with Abudhabi taking a

slower, more conservative, petro-fueled approach while Dubai moved so fast, at times, it

was compared to a theme park.


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CRISIS IN FUTURE

The surging oil prices are not only indication of a coming economic crisis. The rise

in housing prices-what Alan Greenspan called in June a forth in some local markets-is a

sign of speculation and overproduction in another fundamental sector of the U.S economy.

Far from reflecting the demand for housing, the boom in housing prices is the result of

monetary intervention by the U.S Federal Reserve. Low interest rates over the past three

years have had the effect of driving for-profit investment into the housing market in the

expectation of high returns.

GROWING SIGNS OF CRISIS

The early signs of the coming economic crisis are already being felt. Inflation the scourgeof the working class eroding the purchasing power of wages-is on the rise. Unemployment

rose to an official rate of 5% in September-but that does not include the millions who have

been out of work for more than six months.

Millions of potential workers who dropped out of the labour force during the recession

four years ago have not returned as expected and thus are not counted in the official

unemployment statistics, the AFX news agency reported on July.

CHALLENGES FOR THE WORKING CLASS

Economic recession and depression lay the objective basis for a class-wide struggle against

the handful of corporate bankers and generals who rule the country. Illusions of buying in

to the capitalist system are stripped away in the most brutal way.

Preparing for the crisis is imperative for all working-class organizations. That means, first

and foremost, building a revolutionary party rooted in the day to day struggles of the working

class and oppressed peoples and tested in leading the political struggles against the

capitalist ruling class.

A Study On Economic Crisis

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