Cause of Financial Crisis and Impact of the Financial Crisis on Financ

Questions: Subprime mortgage crisis is an example of a financial crisis that affected global markets worldwide. Give another example of a financial crisis in your discussions below. 1. Discuss the possible causes of the financial crisis. 2. Discuss the impact of the financial crisis on financial institutions and businesses elsewhere including your own country. 3. Explain how the financial crisis affected the economies of different countries. Answers: 1. The possible causes of the financial crisis are as follows: (a) Leverage position:the high leverage position can create great problems of the financial crisis. Adequate capital needs must be established in order to control the leverage position and thus the financial leverage and thus can lead to problem of bank run. (b) Level of liquidity: a proper balance need to be maintained in the liquidity position of the lending and borrowing. The mismatches like borrowing for long period and lending for short period can create various problems of financial crisis. (c) Problem of sustainability: this provides that the size of the firm can also have a adverse effect. The big size of firm provides for the economies of the scale but the firm must sustain in the market and for that it needs to diversify, decentralize and thus maintain excess buffers. (d) Taxes and subsidies in the economy: the level of taxation is having a great impact on the cost of the capital and the flow of the capital. A proper management needs to be done in regard to the taxation system and the level of subsidies so that the level of speculation in the economy can be controlled. The subsidies should be eliminated on the debt based financing system. (e) Governance: Democratic governance is very essential for controlling the financial crisis. As the level of money supply will be in a controlled situation. Thus the non democratic governance can be a very big cause if the financial crisis and can lead to problem of recession. The above causes lead to various financial crises such as: Bank run Stock market crash Currency crisis Sovereign default Recession Depression 2. The housing market was greatly affected in the United States by the problem of financial crisis as there were many home owners who took up subprime loans but they were unable to meet the mortgage repayments that were required to be made as per the agreements. The value of the homes diminished due to the process of the financial crisis and thus they reached to the situation of the negative equity. There was a situation where large number of owners defaulted in the payment of the installments thus the bank repossessed those houses but the bank suffered losses as the market value of the bank had diminished in accordance to their original prices. Thus bank came under a situation of liquidity crisis which is known as credit crunch. The jobs in the financial services have been strongly affected by the financial crisis. In the United Kingdom, the mortgage industry suffered great loss as it had lost 15% of the members between the start of the credit crunch between the Period August 2007 and mid-2008. The mortgage brokers are also marginalized by banks in the United States. There was a great cut of jobs from various sectors such as banks, insurers and funds. There were significant losses of jobs in the financial sector. There was a decline in the level of activity of the financial sector and the level of employment had also declined. There is a great stagnation and deceleration in the level of the growth of the income in the sector. A great problem of restructuring was found within the financial institutions. 3. The financial crisis have affected to a great extent to many developing countries. The high economies have gone through the problem of recession. The financial crisis came as a hurricane in the developing world. (a) The financial institutions in the developing countries are affected to a great extent by the problem of subprime mortgages. The banks of the developing countries are not having weak links with the international banks. As in china the government is controlling the financial sector thus china is having very limited exposure to the subprime mortgages of United States. (b) The financial crisis had led to reduction in the export earnings of the developing countries. The international monetary fund had expected that the growth in the world trade will decline in the period 2006-2009 from 9.4% to 2.1%. The developing countries have experienced the decline in the prices of the various commodities, demand of goods has declined, and level of tourism in the countries had also declined. (c) The global financial crisis came to the situation where the World Bank and the IMF forecasts that growth in the developing countries had slowed down from the level of 4.5% to 3.3%. (d) The international labor organization also came to the conclusion that the level of unemployment in the world would rise by around 20 million in the world. (e) The United States is affected by a great extent by the financial crisis. Various industries are strongly affected such as banking, real estate, and the construction related industries. It had suffered problem of great recession and the depression. (f) The global trading market of the third world countries is strongly affected by the financial crisis. The prices if various commodities have strongly declined. (g) The financial crisis had also adversely affected the investment by banks and the governments in the third world countries. Thus this had led to decline in the level of jobs and thus less of money is available to invest in the economy and the businesses. (h) The developing countries are affected by a great extent. But the level of impact depends upon various factors such as integration in the financial markets, dependence of the economies on the foreign investment, and the dependence of the developing countries on the developed countries in order to get aid, trade and remittances. (i) The financial crisis had also affected the level of the living conditions of the population. The low income countries are also adversely affected as the level of poverty as the reduction in the growth of 1% in income will lead to forcing an around 20 million people in the situation of the absolute property. Thus it had created a situation of social unrest in various countries. Reference: John Fullerton Dr. Sally Goerner, 2010, The Six Root Causes of the Financial Crisis. International Labour Office, Geneva, 2009, Impact of the Financial Crisis on Finance Sector Workers. The Financial and Economic Crisis and Developing Countries.