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					The 2007-09
Financial Crisis –
What Went Wrong and
What Went Different?

   Zsolt Gál, Katedra politológie, FiF UK,
Gondova 2, 81499, Bratislava, gal@fphil.uniba.sk
                Strong population growth
                in the U.S. (1.4.2000 – 1.7.2007)




Source: US Census Bureau, Population Division, Vintage 2007 Population Estimates
 Strong population growth especially in
 the Sunbelt MSAs (from Virginia to Pacific)




Population of Las Vegas-Paradise MSA:
1990: 741 thousand
2000: 1 376 thousand
2007: 1 836 thousand
Logical explanation might be:

 Bigger rise in population – higher demand in
 housing
 Higher (excess) demand – greater rise in
 property prices – bigger housing bubble
 Bigger the housing bubble – greater the
 bust, higher volatility of house prices
 Bigger bubble – bigger indebtedness of
 households – bigger losses for the banks
 when house prices collapsed
Falsification 1: The bubble
wasn’t bigger than elsewhere
(other OECD countries)




         Source: De Michelis [2009]: Overcoming the Financial Crisis in the United
         States. OECD Economics Department Working Paper No. 669, Paris, p. 17.




U.S. House price volatility not an extreme, from 2007
     some countries experienced bigger drop in
            residential property prices.
Falsification 2: America was not an
extreme in indebtedness – outstanding
        140


residential mortgage loans as % of
        120
                                                                                                                                                                                                                                 121



GDP in selected European states                                                                                                                                                                                      100
        100
                                                                                                                                                                                                    92,8
                                                                                                                                                                                        86,3

        80                                                                                                                                                                      75,3           74,7           73

                                                                                                                                                                    61,6
                                                                                                                                                                                       58,9                                59,4
        60                                                                                                                                                 57
                                                                                                                                        53,1
                                                                                                                                          47,7 46,9


        40                                                                                                           34,9        36,3
                                                                                                          33,7                                                  32,5       32,8
                                                                                              30,2

                                                                                   19,8                          21,7
        20                                                              17,5
                                                           15,3
                    11,7         11,9       12,4                                          11,8
                                                                                9,9
                            3,9                      3,7                                                                    5,6
                2,7                     2,1                        1,4                               2,4
         0
                                        Hungary




                                                                               Italy




                                                                                                                                        Germany
                                                                  Lithuania




                                                                                                                            Estonia




                                                                                                                                                                                               Denmark
                Poland




                                                                                                                                                                Spain




                                                                                                                                                                                       UK
                           Slovakia




                                                                                                     Latvia

                                                                                                                 France




                                                                                                                                                  Sweden




                                                                                                                                                                           Ireland




                                                                                                                                                                                                                           Iceland
                                                                                                                                                                                                           Netherlands
                                                   Czech Rep.




                                                                                          Greece




 2001         2007

 Source: European Mortgage Federation [2008]: Hypostat 2007. A review of Europe’s mortgage and housing markets. p. 57.
So what went different, why it
started in the US and why it
became global?
Differences:
 The quality of loans has deteriorated much more
 in the U.S.
 Easiest refinancing and non-recourse mortgages
 lead to excess borrowing and decreasing
 prudence
 Majority of loans has been securitized
 No other OECD country had so big (failed)
 government intervention in housing markets
 Internationally: perception of safest country,
 highest liquidity – huge influx of capital
      Difference 1: Residential Mortgage
 Originations by Product in the USA (billion $)
4500


4000


3500


                                             2772
3000
                                                                     1157
                                                          1328                      1019
2500
                          1966

2000
            1481                                                      605           494           1162
                                                          565
1500                                                                  96             84
                                             732                      387           442                          1100
                                                          148
                           658                                                                     347
1000                                                      362
            521                              248                      403           412            101
                                                          209                                      355
                           203               248                                                                 176
500         205                                                                                                  124
                           190               96
            135                                           593         663            618           275           240
                  64            77
                                             349
            187           230                                                                      191          56 108
   0
          2001          2002            2003            2004       2005           2006          2007        2007 4Q*
                   Subprime          Alt-A          Home equity     FHA/VA          Jumbo         Conforming
Source: Joint Center for Housing Studies of Harvard University [2008]: The State of the Nation’s Housing: 2008. Cambridge, 39.
Difference 2: Residential mortgage characteristics
                            It is very easy in the
                            U.S. to refinance a
                            mortgage (without a
                            pre-payment penalty)
                            Most mortgages are
                            de iure or de facto
                            non-recourse (in the
                            case of default the
                            lender can get just
                            the collateral - house,
                            no personal liability
                            for loans
Difference 3: Securitization. Share of
mortgage loans securitized (transformed
to MBS – mortgage backed securities and
sold to investors) by category and vintage.
Difference 3: Securitization. Model of the
transformation of mortgages to MBS and CDO




Király–Nagy–Szabó [2008]: Contagion and the beginning of the crisis – pre-Lehman
       period. Magyar Nemzeti Bank Occasional papers 76. Budapest, p. 20.
Difference 3: Securitization. Developed
country mortgage funding – U.S. exception




Lea, Michael [2010]: International Comparison of Mortgage Product Offerings. Special Report,
Research Institute for Housing America, Mortgage Bankers Association. Washington, D.C. p. 34.
Delinquency Rates: 90 Days Past Due (U.S.
residential mortgages by type)




                           Domino effect




Source: U.S. Department of Housing and Urban Development [2010]: U.S. Housing Market Conditions. 2nd
      Quarter 2010, p. 79 based on Mortgage Bankers Association’s National Delinquency Survey data.
   Unprecedented wave of defaults and
foreclosures – triggering the domino effect




                 Domino effect
Fall of mortgage banks (2007)




           Domino effect
Fall of big 5 investments banks
      Domino effect
                   Domino effect



The crisis reaches institutions “too big to fail”:
GSEs, Fannie Mae a Freddie Mac (nationalized 7.9.08)
and AIG, around 350 billion $ bailout from the
government (final bill could reach 800 billion, 6% of the GDP!)
Domino effect
Difference 4: Monetary expansion of Fed
after the 2001 recession, negative real interest
rates (encourages borrowing, discourages saving)




    Source: Federal Reserve Bank of St. Louis, Monetary Trends. October 2010, p. 1.
Difference 4: Monetary
expansion of Fed,
Federal funds rate not
consistent with so-
called Taylor Rule –
inflation targeting




  Source: Federal Reserve Bank of St. Louis, Monetary Trends. April 2009, p. 10.
Difference 4: Housing policy – CRA, FHA
loans and affordable housing goals for GSE
            5:
Difference 5: Position of the U.S. in globalized world
  – rising foreign investment, import, immigration




  U.S. treasuries – considered as safest, highest
liquidity which allows low interest rates in spite of
rising imbalances (twin deficits), investors looking
after other securities (MBS, CDO – “toxic assets”)
         Official reserves of emerging economies
                   (including gold, billion $)
6000,0
                   China           India     Russia    Brazil   Middle East          CEE *     Africa   Other


5000,0
                                                                                                         734,9


                                                                                                         342,8

4000,0                                                                                        676,0      258,6


                                                                                              289,0
                                                                                                         823,1
                                                                                              248,9

3000,0                                                                                                   192,9
                                                                               533,4          670,4
                                                                                                         421,3
                                                                               221,2          179,5
                                                                                                         271,7
                                                                               196,3
                                                                 440,3                        466,7
2000,0                                                                         477,2
                                                       386,5                                  267,6

                                                                 351,6         296,2
                                            326,0
                                                       246,7                                            2134,5
1000,0                     272,7
           250,6                            198,3                                            1531,3
                           163,9                                              1069,5
           157,9                                                 822,5
                                                       615,5
                           292,0            409,2
           216,3
   0,0
          2001         2002                2003       2004      2005          2006           2007       2008
 Source: IMF – International Monetary Fund [2009]: World Economic Outlook April 2009. Crisis and Recovery.
                                        Washington, D.C. p. 214.
       Currency composition of global foreign
         exchange reserves (1995-2007, %)
100%                                   6,1%                          5,2%      4,5%      4,1%      3,9%      3,7%      3,2%      2,9%
                   11,7%     10,2%               6,4%      6,3%
         13,6%                                                                                                         4,2%      4,7%
                                                           2,8%      2,7%      2,9%      2,6%      3,3%      3,6%
                                       6,2%      2,9%
90%
                             5,8%      2,7%
                   6,7%
          6,8%               2,6%
80%                2,7%
          2,1%                         13,8%      17,9%     18,8%     19,8%     24,2%
                             14,5%
                   14,7%                                                                  25,3%     24,9%    24,3%      25,2%     26,5%
70%
         15,8%


60%

          59,0%     62,1%     65,2%     69,3%     70,9%     70,5%    70,7%      66,5%                         66,4%
                                                                                          65,8%     65,9%               65,7%     63,3%
50%

40%


30%

20%

10%


 0%
        1995      1996      1997      1998      1999      2000      2001      2002      2003      2004      2005      2006      2007

                    US dollar                   Euro                        German mark                  Pound sterling
                    Japanese yen                French frank                Swiss franc                  Other
Source: Buiter – Sibert [2008]: The Icelandic banking crisis and what to do about it: The lender of last resort theory of
             optimal currency areas. Policy Insight No. 26. Centre for Economic Policy Research, p. 20.
            Thank you for
            your attention!



         Zsolt Gál, Katedra politológie, FiF UK,
    Zsolt Gál, PhD. Katedra politológie, FiF UK
Gondova 2, 81499, Bratislava, Slovakia, gal@fphil.uniba.sk
Projekt podporili:




 Podporujeme výskumné aktivity na Slovensku. / Projekt „Globálne a
     lokálne procesy na Slovensku: rozvoj spoločenských inovácií v
    podmienkach internacionalizácie Európskej únie“ je podporený v
  rámci opatrenia 4.1 „Podpora sietí excelentných pracovísk výskumu
    a vývoja ako pilierov rozvoja regiónu v Bratislavskom kraji“. Viac
      informácii o Operačnom programe Výskum a vývoj nájdete na
  webovej stránke http://www.asfeu.sk/operacny-program-vyskum-a-
                                   vyvoj

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