GLOBAL

FINANCIAL
CRISIS 2008
 INTRODUCTIO
N
 Financial crises and accompanying economic recessions have
occurred throughout history. Periodic crises appear to be part

of financial systems of dominant or global powers.

 The United States is the epicentre of the current
financial crisis.
 Enjoying a unipolar moment following the collapse of the
Soviet Union and the failure of Communism, the United States
was confident that economic liberalization and the proliferation
of computer and communications technologies would
contribute to ever-increasing global economic growth and
prosperity.
 Globalization contributed to the extraordinary
accumulation of wealth by a relatively few individuals
and created greater inequality.
 In an effort to reduce inequality in the United States, the
government implemented policies that engendered the
financial crisis.
 Financial globalization contributed to the unprecedented
growth and prosperity around the world.
 China and India became significant economic powers, and the
industrializedcountries grew even richer.
 Closely integrated into the financial system are banks and
investment firms. When the financial system is in crisis, banks
reduce lending, companies often face bankruptcy, and
unemployment rises. Ultimately, as we saw in the financial
crisis of 2008–2009, many banks fail.
 The financial crisis triggered a global economic recession that
resulted in more than $4.1 trillion in losses, unemployment
rates that climbed to more than 10 percent in the United
States and higher elsewhere, and increased poverty. Stock
markets around the world crashed.
Consumers reduced their spending, manufacturing
declined, global trade diminished, and countries adopted
protectionist measures, many turning their attention
 inward to focus on problems caused by the financial
crisis. Given the central importance of finance to virtually
all aspects of globalization, issues such as trade, the
environment, crime, disease, inequality, migration,
ethnic conflicts, human rights, and promoting democracy
are affected.
Furthermore, the financial crisis weakened some
countries more than others, thereby engendering
significant shifts of power among countries, especially
between the United States and China.
American investors lost roughly 40 percent of the value of
their savings.
REASONS FOR THE
CRISIS
Housing price increase during 2000-2005, followed by
a levelling off and price decline.
Increase in the default and foreclosure rates beginning
in the second half of 2006 due to the Fed’s
manipulation of interest rates during 2002-2006
Collapse of major investment banks in 2008.
Collapse of stock prices in 2008.
 HOUSE PRICE CHANGE
 Housing prices were relatively stable during the 1990s, but they
began to rise toward the end of the decade.
 Between January 2002 and mid-year 2006, housing prices
increased by a whopping 87 percent.
 The boom had turned to a bust, and the housing price declines
continued throughout 2007 and 2008.
 By the third quarter of 2008, housing prices were approximately
25 percent below their 2006 peak.
 INCREASE IN INTEREST
RATE
 Fed's prolonged Low-Interest Rate Policy of 2002-2004 increased demand for,
and price of, housing.
 The Fed injected additional reserves and kept short-term interest rates at 2%
or less throughout 2002-2004
 Due to rising inflation in 2005, the Fed pushed interest rates upward.
 Interest rates on adjustable rate mortgages rose and the default rate began to
increase rapidly.
 Default rate reached 5.2 percent during the third quarter of 2008.
 Starting in 2006, there was a sharp increase in the foreclosure rate.
COLLAPSE OF INVESTMENT
BANK
 An SEC Rule change adopted in April 2004 led to highly leverage
lending practices by investment banks and their quick demise when
default rates increased.
 The rule favoured lending for residential housing.
 Based on historical default rates, mortgage loans for residential housing
were thought to be safe. But this was no longer true because
regulations had seriously eroded the lending standards and the low
interest rates of 2002-2004 had increased the share of ARM loans with
little or no down payment.
 When default rates increased in 2006 and 2007, the highly leveraged
investment banks soon collapsed.
 COLLAPSE OF STOCK
PRICES
 As of mid-December of 2008, stock returns were down by 37 percent since the
beginning of the year.
 This is nearly twice the magnitude of any year since 1950.
 This collapse eroded the wealth and endangered the retirement savings of many
Americans.

IMPACT ON MARKETS
The global financial crisis affected virtually all areas, including the
process of globalization. Housing prices crashed; foreclosures
became
commonplace; unemployment reached 10 percent in the United States and
higher levels in Europe and elsewhere; manufacturing declined sharply,
especially in the automotive industry; students were faced with higher costs
as colleges suffered
financial losses; finding jobs after college became more challenging; and a global
recession created widespread hardships. On the other hand, many developing
countries that took a prudent approach to finance and saved money were
not as
badly damaged. In fact, countries that did not fully embrace financial
liberalization were less affected than those that gave in to American pressure to
fully engage
in financial globalization. We also saw a global power shift, with the United States
losing ground to China, India, Brazil, and other developing countries.

FORECLOSURES
 People could no longer afford to purchase homes, which meant that
homebuilders were forced to abandon construction projects.
  This resulted in a fall of demand of goods required in construction.
 All of the industries that produced these products generally
experienced declining sales.

DECLINE IN MANUFACTURING
 Manufacturing, already in decline, fell dramatically.
 This especially was the case in the automotive industry, with
General Motors and Chrysler declaring bankruptcy after closing
many factories and dealerships, despite unprecedented financial
support from the U.S. government.

GLOBAL POWER SHIFT

Another major impact of the global financial crisis is
a global power shift.
 Although most countries were negatively affected by
the financial crisis and global recession, some
emerged stronger than others.
 Brazil, Russia, India, and China, also known as the
BRIC countries, enhanced their power vis-à-vis the
United States, Western Europe, and Japan.

HOW DID INDIA MAKE IT

THROUGH?
 In sharp contrast to the policies adopted by the U.S. Federal
Reserve under Chairman Alan Greenspan, the Reserve Bank of
India, led by Y . V. Reddy, rejected many financial innovations and
 limited the participation of foreign investors in India’s
financial system.
 Instead of believing that markets are self-regulating, as many
Americans do, the Indian government favoured regulations and
was quick to recognize financial bubbles.
 Reddy restricted bank lending to real estate developers,
increased the amount of money banks had to set aside as
reserves, and blocked the use of some derivatives.
 This conservative approach enabled India to largely avoid the global
financial crisis.
EFFECTS OF ECONOMIC
CRISIS 2008 ON THE
GLOBAL ECONOMY
 The historic meltdown of the global capital markets, and sharp
economic downturn, is systemic in nature, and is conditioned by the
contradictions, and vulnerabilities, of the current level of economic
organization, with the world economy unable to develop further in the
old manner.
 The global systemic crisis, which itself has built up over decades, will
not be overcome until the vulnerabilities/ and contradictions that
caused it are resolved effectively.

• While the crisis felt more acutely in some regions, it was a

global systemic crisis. The initial epicenter of the crisis was
in the United States, but the crisis was a world crisis which
 affected the whole world system and disrupted the
production process. The crisis was felt much stronger in the
USA, and also in countries which are heavily integrated
within the US economic and strategic sphere.

• The crisis was global in nature, and affected all countries

that are part of the world economy, but not necessarily at
the same time and to the same extent. How and when it
affected each country varied. Collapse of several large
international banks, corporate collapses and industrial
shutdowns occured unevenly and at different times in
various countries.

 The crisis produced a handful of winners and help to reinforce

global powerful monopolies controlling nearly all production,
commerce and finance in the world economy. The importance of
medium and small-size business declined still further. The world
economy became increasingly monopolized, and numerous
 corporate takeovers took place. Most small-size enterprises were
unable to survive.
 After contracting during the crisis, energy consumption resumed
its growth. The global revival will need cheap energy, produced in
greater quantities than before.
 There were already indications that the crisis will possibly
encourage more internally centered economic growth in China,
India, Russia and the rest of the emerging economies,
strengthening domestic markets, but hence reducing their
contribution to world trade during the crisis

 As a result of the deepening of the global economic crisis, social

inequality increased, but inequality of incomes between workers in
the developed economies and the emerging economies lessened.
 The crisis was destined to bring about fundamental changes
in the world economic system. In order to develop further,
the world economy needs qualitative changes. There are
limits to reform in the current global economic system, but
at no other time in the last half-century have those limits
seemed more flexible.

 As a result of the serious collapse in global markets, and

also because of the relative strength of their banking sector,
it is quite possible that the emerging economies will
increasingly shape the future of global finance just as they
are already shaping the direction of global trade
IMPACT ON
INDIAN
ECONOMY
IMPACT ON STOCK MARKET
 The immediate impact of the US financial crisis has
been felt when India’s stock market started falling. On
10 October, Rs. 250,000 crores was wiped out on a
single day bourses of the India’s share market.

 The Sensex lost 1000 points on that day before

regaining 200 points, an intraday loss of 200 points.
This huge withdrawal from the India’s stock market
was mainly by Foreign Institutional Investors (FIIs),
and participatorynotes.
 IMPACT ON INDIA’S TRADE
The trade deficit is reaching at alarming proportions. Because of
worker’s remittances. NRI deposits, FII investment and so on, the
 current deficit is at around $10 billion. But if the remittances dry up
and FII takes flight, then we may head for another 1991 crisis like
situation.

 IMPACT ON INDIA’S EXPORTS

With the US and several European countries slipping under the full
blown recession, Indian exports have run into difficult times, since
October. Manufacturing sectors like leather, textile, gems and
jewellery have been hit hard because of the slump in the demand in
the US and Europe. Indian exports fell by 9.9 per cent in November
2008, when the impact of declining consumer demand in the US and
other major global market, with negative growth for the second month,
running and widening monthly trade deficit over $10 billions
.IMPACT ON INDIA’S HANDLOOM SECTOR, JEWELRY
EXPORT AND TOURISM
 Again reduction in demand in the OECD countries affected the Indian
gems and jewellery industry, handloom and tourism sectors.
 Around 50,000 artisans employed in jewellery industry have lost their
jobs as a result of the global economic meltdown.
 Further, the crisis had affected the Rs. 3000 crores handloom industry
and volume of handloom exports dropped by 4.6 per cent in 2007-08,
creating widespread unemployment in this sector .

 EXCHANGE RATE DEPRECIATION

 With the outflow of FIIs, India’s rupee depreciated approximately by 20
per cent against US dollar and stood at Rs. 49 per dollar at some point,
creating panic among the importers.
 IT-BPO sector
The overall Indian IT-BPO revenue aggregate is expected to grow by over 33
per cent and reach $64 billion by the end of current fiscal year (FY200). Over
the same period, direct employment to reach nearly 2 million, an increase of
about 375000 professionals over the previous year. IT sectors derives about
75 percent of their revenues from US and IT-ITES (Information Technology
Enabled Services) contributes about 5.5 percent towards India’s total export.
So the meltdown in the US will definitely impact IT sector. Further, if Fortune
500 companies slash their IT budgets, Indian firms could adversely be
affected.

FII and FDI

The contagious financial meltdown eroded a large chunk of money from the
Indian stock market, which will definitely impact the Indian corporate sector.
Due to global recession, FIIs made withdrawal of $5.5 billion, whereas the
inflow of foreign direct investment (FDI) doubled from $7.5biilion in 2007-08
to $19.3 billion in 2008 (April-September).
GOVERNMENT RESPONSE
 THE FEDERAL RESERVE
 The FEDERAL RESERVE (Fed) has been extremely
active in making sure that the financial system
continues to function properly during the credit
crisis.
 The Fed lowered its key federal fund rates to
provide additional liquidity to the financial system,
expanded the range of collateral it would willing to
accept in return for loans, and provided direct lines
of credit to a broader variety of financial institutions
 When Bear Stearns was on the verge of bankruptcy
the Fed also guaranteed a large portion of Bear
Stearns' liabilities in order to facilitate a takeover by
JPMorgan.
THE GOVERNMENT RESCUES
PROMINENT FINANCIAL FIRMS
 The executive branch of the government has also been
closely involved in maintaining stability in the financial
system.
 the Federal Housing Finance Agency (FHFA,) in conjunction
with the Treasury Department, placed Fannie Mae and
Freddie Mac under conservatorship as part of a four-part plan
to strengthen the housing agencies.
 Following the rescue of Fannie Mae and Freddie Mac, the
government chose not to rescue Lehman Brothers, instead
allowing it to file for bankruptcy on September 15.
THE "BAILOUT PLAN"
 Faced with the possibility of a systemic collapse of
the financial system, the Treasury proposed a $700
billion plan that would involve the government's
purchase of impaired assets from the balance
sheets of banks
 Initially refused,The Treasury subsequently revised
its proposal, and spurred by rapidly worsening
financial market conditions, the House voted to pass
the bill on October 3, 2008
 Similar plans have been implemented globally as
part of efforts to stabilize financial systems and
stimulate economic activity.
HOW EFFECTIVE WERE THESE
MEASURES
 Following the stock market crash of 1929, policy
makers committed a trio of errors. They tightened
monetary policy, restricted fiscal spending and failed
to enhance confidence in the banking system.
 It is widely believed that these mistakes exacerbated
the effects of the depression that followed.
 Policymakers have learned from these mistakes, and
those lessons were put to good use during the credit
crisis of 2008, during which the Fed provided
enormous amounts of liquidity to the financial
system.
 CONTD.
 The government also increased its spending, thereby
providing fiscal stimulus to the economy.

 Finally, the government took extraordinary measures

to secure confidence in the financial system through
a variety of guarantees, insurance programs, loans
and direct investments.

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