The great stagnation. How began and ended the crisis of 2008

© RIA Novosti / Alexei Codecoverage in fotobanka the Moscow interbank currency exchange (MICEX)The great stagnation. How began and ended the crisis of 2008© RIA Novosti / Alexei Codiscovered the image Bank

Ten years ago, on 15 September 2008, the world’s fourth largest investment Bank Lehman Brothers with assets of 639 billion dollars went to court with a bankruptcy petition and a request for protection from creditors. From this day the crisis in the US mortgage market turned into a global financial crisis, economists called the great stagnation. On the causes and consequences of the events of 2008 — in the material RIA Novosti.

Late to the feast

The starting point of the crisis is known for sure: November 4, 1999, the U.S. Congress adopted the law on financial modernization, abolishing the prohibition to commercial banks to work actively in the securities markets. Note that this measure does not come from the ceiling, and was introduced in 1933, in the midst of the great depression.

The authors of the prohibition act, senators glass and Stigal, wanted to prevent a repetition of the financial crash of 1929, when due to the fall in the stock market were bankrupt, many commercial banks have invested the money in stocks. As a result, millions of American investors lost their savings.

However, at the end of the twentieth century, American bankers were convinced that such concerns are no longer relevant, because the methods of financial analysis have reached an incredible perfection.

But the main reason for the repeal of the glass — Steagall act was the stock boom associated with the frantic demand for shares of high-tech companies. On securities, online stores, service providers, producers of new gadgets speculators earn billions, but commercial banks were not allowed to participate in this celebration of greed.

Meanwhile, the demand for their traditional services — lending to industrial enterprises has been declining as more us companies transferred production to China and Mexico.

In the end, the bankers have mobilized all resources and lobbying has made the abolition of the glass —Steagall act. This allowed them to earn a good income on investment in shares of Internet companies, but not for long.

Tenth day of March, 2000 stock index high-tech companies reached a record level in 5132,52 item, and then started blowing market «bubble».

By October 2002, the shares on the American stock exchanges has lost five trillion dollars.

Opportunities for investment decreased dramatically, as the United States remained the major markets with positive return on assets. Hundreds of billions lying in Bank deposits, not finding applications. And the interest on these deposits it was necessary to pay what was required to find a profitable product.

Mortgages and derivatives

The output of the banks saw the mortgage. The problem was only that after the crisis the Americans did not consider the purchase of housing is the fundamental need and demand for the standard mortgage products was very low.

Therefore, banks offered «subprime mortgages» with reduced requirements for borrowers. And since these loans were of high risk of non-repayment, financial geniuses came up with a scheme of minimizing risks using derivative instruments — the derivatives.

On paper, it looked mathematically perfect. For example, the Bank has a mortgage loan portfolio with a total risk of 50%. Since 50 is the average between the 75 and 25, it is theoretically possible to divide it into two portfolios — one with the risk of default of 75%, second 25%.

Based on this logic, banks issued bonds «reliable», provided «low-risk» part of the portfolio, and «profitable» tied to «high risk» part. The procedure is then repeated: issued new bonds secured by «low-risk» part of the portfolio, half of which was «very low risk», half — «a little less low-risk».

By successive repetition of these operations, sometimes appeared even bonds with a risk less than one percent. Although they are based were all the same mortgage portfolio with a risk of 50%.

Moreover, because the law allows partial redundancy of the derivatives, the volume of the issue «low-risk» bonds greatly exceeded the nominal value of the underlying portfolio of loans.

By 2008, the total value of the derivatives is about one hundred times higher than the volume of mortgages that served as collateral for such bonds.

Nevertheless, almost all investors believed it necessary to buy such «low-risk» paper: the demand is constantly growing, so after a short period of time derivatives can be resold with a good profit. Many banks, not only in the USA, bought mortgage bonds for tens of billions of dollars, waiting for demand and prices will grow even more.

An American tragedy

All hopes were dashed on March 6, 2007, when the Directorate of Economics and statistics of States published data on the growth of delinquencies on mortgage loans to record for all time of observations. Frightened banks immediately suspended the issuance of new mortgage loans, home buying has ceased, and real estate prices began to fall rapidly.

Even faster devalued mortgage bonds: all of a sudden realized that the statement about the low risk of such securities do not accurately reflect the real situation.

In the summer of 2007, the country faced a full-scale liquidity crisis, forcing the fed to quickly reduce the rate from 5.25% in September to 4.25% in December and up to three per cent in January 2008.

This has led to the depreciation of the dollar relative to other currencies and assets. In particular, began to grow rapidly prices of raw materials.

Investment funds saw a new opportunity to make money, began an active speculation in commodity markets, driving rates to record levels.

Fourth of July 2008, the price of Brent crude oil reached a historic high of 143,95 dollar.

Meanwhile in the banking market heated up panic. Reporting banks that have accumulated large amounts of mortgage bonds every quarter looked worse and worse as the depreciation of these securities.

Lehman Brothers during the first half of 2008 recorded losses of hundreds of millions of dollars from transactions with mortgage bonds. The Bank’s shares on the stock exchange is rapidly dropping.

The decline stopped in the early fall, when it was reported that Lehman Brothers is going to buy Korea Development Bank, the state Bank of South Korea.

However, knowing that the losses of financial institutions only for three summer months reached 3.6 billion (a record for the entire 158-year history of the company), the Koreans changed their mind.

Having lost its last hope for salvation, on Monday, 15 September 2008, Lehman Brothers declared bankruptcy. At that time, the assets of the investment Bank had $ 639 billion dollars in debt of 613 billion.

However, positive balances existed only on paper, since $ 155 billion in assets were «highly reliable» mortgage bonds, which by that time had cost nothing. So the real hole in the Bank balance has exceeded $ 100 billion.

The crisis went global

The bankruptcy of Lehman Brothers — the largest in U.S. history — caused financial crisis all over the world. The Dow Jones in one day fell more than 500 points, the largest drop since the terrorist attacks of September 11, 2001.

American banks stopped lending to each other, deprived of funding, even the most stable and solvent company.

This led to a total fall in the stock markets: over the next three days the world stock markets have lost of 2.85 trillion dollars of capitalization.

Concerns about the slowdown in the global economy due to financial problems in the United States and the European Union have generated a panic on commodity markets. During the first week of October of 2008, commodity prices declined by ten percent, which is the sharpest weekly drop in more than fifty years.

Copper fell to the lowest level in eleven years, platinum — to three-year low.

Oil prices fell nearly forty percent from the summer highs and has continued to decline: at the end of September a barrel of Brent crude cost less than $ 90 a month for 61 per dollar by December — about $ 50.

The eighth of October 2008, all the leading Central bankers of the world, except Japan and Russia, took the unprecedented decision of the simultaneous reduction in interest rates. Three days later, EU leaders meeting in Paris have agreed to support financial institutions facing problems.

The thirteenth of October 2008, the European Central Bank, the Bank of England and the Swiss Central Bank promised to give US «dollar funding in the amount necessary to meet demand» in 2008 and 2009.

© AP Photo / Richard Drew The great stagnation. How began and ended the crisis of 2008© AP Photo / Richard Drew

The next day, the US government unveiled a «rescue plan» for the allocation of $ 250 billion to stabilize the financial system. It was assumed unprecedented in U.S. history, a partial nationalization of private banks: Bank of America Corp, Wells Fargo, Citigroup, JPMorgan Chase & Co, Goldman Sachs, Morgan Stanley and Bank of New York Mellon Corp.

Five leading U.S. investment banks ceased to exist in the same as: Bear Stearns, and Merrill Lynch was resold, Goldman Sachs and Morgan Stanley replaced the signboard, ceased to be investment banks. Lehman Brothers went bankrupt.

In November 2008, the fed launched a program of «quantitative easing» by buying companies and banks in mortgage and Treasury bonds for tens of billions of dollars per month. As a result of three rounds of this program, which lasted until the end of 2014, the Federal reserve has poured into the U.S. economy over three trillion dollars.