Factors that Caused the Financial Crisis

Factors that Caused the Financial CrisisThe world had faced two major pecuniary disasters during 20th century. The start crisis happened during 1920-30, which brinyly affected the developed countries like Europe and America. Second crisis started in 1997 and stayed till 1999, mainly affected developing economies of Asia pacific. The recent financial crisis which has awakened the hale world mainly resulted from unregulated financial market. It has created serious anxiety because it falls outwards from U.S, the starting point. Alan Greenspan recently called it a once-in-a-century realization tsunami, born of a decompose deep inside the US housing sector. In order to avoid complete meltdown, governments and central avers worked day and night. Trillions of dollars piddle been allocated to financial institutions by the governments to recover from the crisis in the United States aloneWho were the culprits of financial crisis? It is impossible to held just single factor responsible f or such a big mass in the absence of another(prenominal) factors. In my research i want to analyse the contribution of each factor but the questions arise in my mind is How did Lehman Brother, the fourth largest investment bank in USA failed?Why majority of financial institutions failed in comp are to other institutions?This surly point towards irresponsible activities by financial institutions in their main business LENDING. So focus of my research is to find out the dominant role of easy l deceaseing in present crisis along with other factors.The subject of financial crisis 2008 was such sever that up to now allocating huge amount to address the issues proven insufficient to resolve it. Congress approved $700 billion in retort to the problem. Federal reserve spend $1.3 trillion to bail out markets and institution that includes investments in risky assets, loans to bankrupt institutions, sharing such debt which were defaulting at faster place (Morris, 2008). A further $900 bi llion were allocated as lending to large corporations (Aversa, 2008), reaching the total of nearly $3 trillion as bailout package so far, without even adding the big amount of corporate debt promised by the U.S government year before the crisis An learning of the root causes of this colossal failure that has put the entire financial clay at risk (Woellert and Kopecki, 2008) is necessary to avoid such failures in the future. Number of factors can be held responsible for financial crisis which emerged over number of years. Causes proposed include the avocationsub-prime owes/ easy lendingPoor credit ratingFailure of regulatorsShadow bankingSecuritizationCredit default swapMortgage backed securitiesAssets backed commercial typography etcAims and ObjectiveAim of this research is to understand the root causes of financial crisis particularly lending practises as a major factor.ObjectivesTo explore the history of financial crisisTo guess who were the victims and culprits of financia l crisisImpact of financial crisis on other countries (UK, USA, India, Japan)What steps are being interpreted by government to overcome crisisWhat could be done to observe repetition of crisis in future?Literature ReviewHow did we get to this point? Surprisingly it all started from residential mortgages in the U.S. It had become apparent from 2004 that mortgages issued to majority of consumers did not make any rational sense. Situation was to a greater extent worsted by so called mortgage brokers who issued mortgages to many insolvent consumers in order to generate outsized fees. On other hand new financial vehicles called mortgage-backed securities (MBS) rated by well know credit rating agencies were introduced by Wall Street. These high yielding mortgage-backed securities were bought by investors from all over the world which increased funding for new mortgages. Appraiser ignored all rules to meet the increasing demand of mortgage applications. Federal control board appointed b y congress in 1994 to regulate mortgage lenders decided to watch the game from pavilion. Finally as the bubble accelerates, there is necessary reckoning house prices collapsed. This is how greediness and irresponsibility resulted into a biggest financial crisis (Schmudde, 2008).Sub-prime mortgages which are always blamed for financial crisis is only a component of the deeper problem. The value of credit default swaps, which was originally estimated to be $55 trillion by the securities and exchange ( 4 times higher then the actual figure) are totally unregulated and majority of them were contracted over the phone without any verification, is the root cause from which all the problems of crisis started (Simon, 2008). Regulators had forecasted the problem of present crisis years in advance were not taken seriously because of the successful business by the same financial institutions which are either bankrupt or funded by the government (Associated Press, 2008).According to Bernanke (2 009) and Portes (2009) global imbalances are the fundamental cause of the crisis and it is not possible to fully understand present crisis without considering the issue of global imbalances. As per Jagannathan, Kapoor, and Schaumberg (2009) imbalances in labour supply can financial aid to understand the present crisis. Acharya and Richardson(2009), and Acharya and Schnabl (2009) argue that banks were suppose to transfer the risks to end investors while securitising, particularly in the case of asset-backed commercial paper and purchase of AAA-rated tranches but they neer did which led them to huge pool of credit risks. Schmudde (2009) documents that no verification of consumers income were done while issuing sub-prime mortgages. Many of them were issued for or close to 100% of the house price. withal borrowers with bad credit history easily managed to get mortgages. This is one of the reasons for huge growth in subprime mortgages which increased from $35 billion to $807 billion b etween1995 to 2005. According to bartlett pear (2008) decline of US subprime mortgage triggered the crisis, the impact of the down fall was tremendous Mark-to-market losses on mortgage backed securities, collateralized debt obligations, and related assets through March 2008 were estimate $945 billion. He further said that it is The largest financial loss in history, in compared to $780 billion of 1990 Japans banking crisis, lost accrued from Asian crisis of 1997-98 about $420 billion.. While explaining the reason how did this crisis routine into a global crisis, Khatiwada and McGirr (2008) stated Many of these Sub-prime mortgages actually never make it on the balance sheets of the lending Institutions that originated them and such mortgages by rating them high were made attractive to world investors, when sub-prime borrowers failed to repay their mortgages, the originating institution needed to finance the foreclosure with their own money, bringing the asset back on its balance sh eet. This left many banks in a financially unviable situation, in a rather short, unmanageable timeframe. According to Mian and Sufi (2008) increased demand for mortgage backed securities led to lending boom out which is the root cause of present crisis.Whalen (2008) argues that three main factors are at the root of the problem.First, many companies, banks, and government agencies were encouraged to increase the viability of affordable housing by introducing creative financing techniques.Second, big number of over-the counter derivatives and securities were issued by majority of financial institutions due to huge support by the regulators, led to a disruption in safety and soundness at banks and securities lenders.And the last factor is fir value score an ill-advised by Securities and Exchange Commission (SEC) and the financial accounting standards board (FASB) to all public company to change the reporting standards.The nations biggest subprime lender, Ameriquest Mortgage co., g ave more then US$20 million as a semipolitical donation. Other financial institutions like citigroup inc., wells Fargo co., donated huge amount on political side and on lobbying. This donation helped these institutions to persuade legislators to pass predatory-lending laws which might have contributed to present crisis to some extent (Simpson, 2007).According to Shiller (2008) the following factors played very big role in present crisisStrategy of home ownership which encourage even those who could not afford one.The link between mortgage originator and receiver of payments broke due to mortgage securitization. Because of this there was no reason for mortgage originator to verify the solvency of borrowers.Many loans were issued at low interest rate or even at zero rates with the use of new financial techniques but afterwards rate were increased too high.Research MethodologyMethodology plays a very crucial role in how research leave alone be carried out. Methodology is an explanat ion of why you collected certain entropy, what data you collected, from where you collected it, when you collected it, how you collected it and how you analysed it (Collins, 2003). The researcher requires an interviewer or observer skills to gather data in the qualitative systems. This method requires assemblage and analysing the data and applying the statistical tests (Riley, 2004). Qualitative research interprets opinion of the people in the sample, their way of looking at the subject, what they bump about subject and the dynamic interpret feeling on the subjects (Guari, 2005). The quantitative method mainly uses research instruments to gather, analyse and measure the data. Quantitative approach is more subjective approach. Quantitative approach includes analysing and reflecting on perception to understand social and human activities (Collins, 2003). The main purpose of this chapter is to explain and justify the primary research method which I have chosen to carry out my resea rch. This chapter will also explain the significance of secondary data and state what sources of secondary data i will be using.Source of Acquisition of dataPrimary dataPrimary data collection representation to collect new data of subjects for particular(prenominal) purpose. The different methods of collecting primary data are questionnaire, interview and sampling (Saunders, 2003). For my research it is very important to get some primary data to understand the topic in practical sense. By taking interview of the head of financial institution, will add extra value to my research and will cover my understanding of topic as a whole. I will be collecting my primary data through interview with Mr Mitesh Sheth, Deputy Head of Henderson spheric Investors. The main focus of interview will be to get their opinion about how did this crisis started, what was there response etc. I am also arduous to contact few other key people but too early to mention anything about them yet.Secondary Dat aSecondary data means data collected previously for some purpose. The main sources of such data are library, internet, articles, business journals, research organization (Saunders, 2003).Methods of data analysisAfter collecting primary and secondary data the next stage is to evaluate or analyse the collected data. To convert data into graphs will be the easiest way to analyse the data.HypothesisI will be analysing total amount of lending by US banks to solvent and insolvent borrowers and comparing their rate of default to answer my research.Work PlanProposal submit21st Juneliterate review31st JulyPreparation for interview5th AugustInterview of selected persontenth AugustAnalysis of data20th AugustStart writing reports15th SeptemberDraft report10th OctoberFinal reportOctober endOn successfully completion of my dissertation I hope to come to a positive conclusion. I will utilise all the recourses available to me in order to draw out conclusion. Such as charts, graphs, historical data , interview, questionnaires etc.