midterm report principal of financial markets for finance and banking major topic financial crisis

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MINISTRY OF EDUCATION AND TRAINING

VIETNAM NATIONAL UNIVERSITY, HO CHI MINH CITY

UNIVERSITY OF ECONOMICS AND LAW

Full name Student ID Level of job

completion

Nguyén Thi Ngoc Duyén K224020224 100%

Huynh Thi Ngoc Giang K224020226 100%

Tran Thanh Phuong K224020247 100% Lé Duc Hau K224030432 100% Nguyén Yén Linh K224040570 100% Dang Hoai Minh Thu K224040586 100%

ACKNOWLEDGEMENT

First and foremost, we wish to express our deep and sincere gratitude to the University of Economics and Law for incorporating the Financial Theory and Monetary subject into the curriculum In particular, we extend our gratitude to Ms Nguyen Hoang Anh, the esteemed lecturer of the Financial Theory and Monetary subject, for providing us with the invaluable opportunity to explore and present this report through our group presentation This opportunity has been instrumental in expanding our knowledge and establishing a strong foundation for mastering this subject However, owing to our limited understanding, there may be some shortcomings in our essay We earnestly hope to receive your valuable feedback and comments, which will undoubtedly aid us in improving and refining our gr oup assignment

In conclusion, we would like to extend our heartfelt wishes to you, hoping you find immense joy, robust health, and resounding success in your esteemed teaching career.

DUTY CHART

Definition of a Financial crisis

(including differences bw Financia} Ngọc Giang 100% and economic crisis; types)

Causes of financial crisis Ngoc Duyén 100%

The 2007-2008, Key Events

Global Financial

Crisis Effects

Thanh Phương 100%

FED's responses

2 Slide Design and complete slides Minh Thư 100% Giang, Duyên,

Conten Linh, Phương °

3 Presentatior Compose Tesponses for viewer’s Hau 100%

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TABLE OF CONTENTS

1 Definition of a financial crisis 1.1 Definition

A financial crisis refers to a disruption or breakdown in the financial system of a country or region that has significant negative impacts on the economy It is characterized by severe disruptions in the functioning of financial markets, institutions, and intermediaries, leading to a loss of confidence and a sharp decline in economic activity (Scott, n.d)

1.3 Types of Financial Crises 1.3.1 Currency Crises

Currency crises occur when a country's currency rapidly loses its value, leading to economic instability This can be caused by factors such as speculation, loss of investor confidence, or unsustainable economic policies

1.3.2 Sudden Stops

A sudden stop is an abrupt reduction in net capital flows into an economy, especially an

emerging economy.

Sudden stops refer to a sudden halt in capital inflows to a country or region This can happen when investors quickly withdraw their investments due to concerns about economic or financial conditions Sudden stops can disrupt ec onomic growth, increase borrowing costs, and lead to financial instability

1.3.3 Foreign and Domestic Debt Crises

Foreign debt crises occur when a country is unable to meet its obligations on international debt, leading to aloss of confidence from creditors Domestic debt crises, on the other hand, involve difficulties in repaying debts within the country, such as corporate or household debt These crises can result in financial distress, bankruptcies, and economic downturns

1.3.4 Banking Crises

Banking crises occur when there is a significant disruption in the banking sector, leading to a loss of confidence in the financial system This can happen due to factors like bank failures, inadequate regulation, or systemic issues Banking crises can result in bank runs, liquidity problems, credit crunches, and a contraction in lending, negatively impacting the overall

economy

(Mr Stijn Claessens and Mr Ayhan Kose, 2013, January 30) 2 Causes of financial crisis

Financial crises are complex events with multiple causes, and there is no single theory that can fully explain why they occur However, there are a number of factors that have been identified as contributing to financial crises, including:

2.1 Asset Bubbles

Asset bubbles are periods of rapid and unsustainable increases in asset prices, such as housir prices or stock prices These bubbles can be caused by a variety of factors, including excessive risk-taking, leverage, and speculation When these bubbles burst, they cause sharp declines ir asset prices, leading to substantial losses for investors and financial institutions This can destabilize the financial system and lead to a crisis (Liberto, n.d) The 1929 stock market crash was caused by unsustainable rising of stock prices When the bubble burst, the stock market crashed, leading to a global recession

Figure 2 The Dow Jones Industrial Average has risen just under 6x from its August closing low of 64, to its September 1929 high of 381

2.2 Excessive Risk-Taking

Financial institutions may take on excessive risk in pursuit of higher profits, especially during periods of economic growth and low interest rates This risk-taking behavior had a significant impact on both the worldwide crisis and the Eurozone crisis (Baldwin, 2012) It is probable that banks will experience a reduction in their ability to take risks, leading them to decrease lending, which will in turn have a negative impact on economic growth (Catalan, M., Natalucci, F., Qureshi, M S., & Tsuruga, T, 2023) The savings and loan crisis of the

1980s in the United States occurred when savings and loan institutions took on too much risk in their lending practices When these loans became difficult to repay, savings and loan institutions began to fail, leading to a recession in the United States (Boyle M J., 2021)

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Map of Asian Financial Crisis

South Korea Hong Kong

°

Figure 4 Map of Asian Financial Crisis

2.4 Macroeconomic Shocks

Unexpected economic events, such as recessions or natural disasters, can stress the financik system and trigger a crisis The impact of disruptions to supply chains and commodity markets on domestic growth and inflation could exacerbate banks’ market and credit losses, further reducing their profitability and capitalization (Kiley, 2018)

2.5 Geopolitical Events

Wars or political instability can disrupt financial markets and lead to a crisis Geopolitical tensions can destabilize financial systems Financial restrictions, heightened uncertainty, and outflows of cross-border credit and investment due to escalating tensions can lead to increased risks and costs for banks in renewing their debt (Lu, Z., Gozgor, G., Huang, M., & Lau, M C

K, 2020)

In addition to these factors, financial crises can also be caused by human error, fraud, and other unforeseen events

Each of these factors can independently lead to a financial crisis, but they often interact in complex ways that can exacerbate the severity of the crisis

Financial crises can have a devastating impact on the economy and on individuals They can lead to recessions, job losses, and foreclosures Financial crises can also damage public trus in the financial system

3 The 2007-2008 Global Financial Crisis 3.1 Main Causes

3.1.1 Housing bubble

In the early 2000s, the US economy was on the verge of recession and inflation To revive that economy, FED reduced the interest rates from 6.5 percent (%) in 2000 to 1 percent (%) in 2003 At that time, alot of people went to the banks borrowing money to buy houses so that the real estate was extremely hot There was a boom in U.S housing prices fueled by low interest rates and lax lending standards This created a bubble that eventually burst, leading housing prices to plummet Many mortgage borrowers defaulted as their home values declined below what they owed (Nguyen, 2019)

10,0

1990 1991 1992 1993 1934 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 ——ãi Suất

Figure 5 FED Fund Rates Chart

3.1.2 Subprime mortgages

Due to changes in banking laws in the 1980s, many banks and financial institutions offered subprime mortgages to borrowers with poor credit histories (Britannica, 2019) Many of these mortgages had adjustable rates that later reset to much higher interest rates, leading to defaults During the period from the late 1990s to 2004-2006, the ratio of subprime mortgages to total home loan accounts increased from about 2.5 percent to Approximately 15 percent per year (Britannica, 2019)

U.S Subprime Lending Expanded Significantly 2004-2006

Subprime Mome Share of Mortgage Ownership

Originations (%) Rate (%) 2‹ xr0

or 8 1 00 2001 aa z0) ot 7% % or

EE Subprime Share % El Home Ownersiup %

Figure 6 U.S Subprime lending expanded dramatically 2004- 3.1.3 Securitization

Many subprime mortgages were bundled together to create mortgage-backed securities (MBS) and collateralized debt obligations (CDOs) that were then sold to investors These securities were often given high credit ratings, but they contained risky underlying assets This spread risk throughout the financial system When borrowers defaulted, these securities plummeted in value (Boyle M J., 2019)

0 2000 O1 02 03 04 05 O6 07

Sources: Inside MBS & ABS; JPMorgan Chase & Co.; and European Securitization Forum Note: CDOs = collateralized debt obligations; ABSs = asset-backed securities, including auto, credit card, etc., and excluding MBSs; and MBSs ~ mortgage-backed securities,

excluding U.S agency MBSs

Figure 7 Securitization chart from 2000 to 2007

3.1.4 Credit default swaps

Financial firms often bought derivatives called credit default swaps (CDS) as insurance against MBS defaults Many CDS were sold without having enough capital to pay claims when defaults happen (example: AIG) The CDS market grew rapidly to over $60 trillion by 2007 (Britannica, 2019)

Credit Default Swaps Outstanding at Year End*

(notional amount in trillions of dollars)

$62.2

$0.91 2001 2002-2003 2004 200X 2006 2007 2003 2009 2010

“Note: the 2010 figure utilizes mid-year data

Source: Intemational Swaps and Derivatives Association

3.2 Key events

3.2.1 Housing market downturn (2006-2007)

The crisis initiated following the collapse of the housing bubble in the United States Housing prices started declining, particularly in the subprime market, which led to a wave of foreclosures (Turner, 2023)

Figure 9 In October 2007, Burbank, California home sellers had to decrease their a prices due to the housing market's downturn

3.2.2 Subprime mortgage defaults (2007)

An increasing number of subprime mortgage defaults and foreclosures caused a significant drop in the value of mortgage-backed securities and related financial instruments

(Kodres, n.d)

3.2.3 Bear Stearns Collapse (March 2008)

Bear Stearns did indeed face major liquidity problems and received a 28-day emergency loan from the New York Federal Reserve Bank There were serious concerns among investors that the collapse of Bear Stearns could have triggered a broader financial sector crisis JPMorgan Chase subsequently acquired Bear Stearns for an initial price of $2 per share in a rescue deal backed by $30 billion in Federal Reserve financing Later, the acquisition price was increased to $10 per share This event occurred shortly after Bear Stearns had been trading at a high of $172 per share, and its sudden collapse and fire sale raised significant concerns about the stability of the financial sector during the 2008 global financial crisis (Gruenberg, 2022)

3.2.4 Fannie Mae and Freddie Mac Takeover (September 2008)

Fannie Mae and Freddie Mac, two crucial government-sponsored enterprises in the housing market, were placed under conservatorship by the U.S government

3.2.5 Lehman Brothers Bankruptcy (September 2008)

Lehman Brothers, a prominent global investment bank with a history spanning more than 150 years, filed for bankruptcy on September 15, 2008 This event marked one of the most significant and dramatic moments of the 2008 global financial crisis The bankruptcy of Lehman Brothers had profound repercussions for the global financial system, leading to a crisis of confidence in the stability of financial institutions and triggering a series of events that contributed to the broader financial meltdown (Turner, 2023)

3.2.6 AlG Bailout (September 2008)

The day after Lehman Brothers filed for bankruptcy, on September 16, 2008, the U.S Federal Reserve stepped in to rescue the American International Group (AIG), which was indeed the largest insurer in the United States AIG faced severe financial distress due to its exposure to credit default swaps, risky financial products tied to mortgage-backed securities The Federal Reserve's intervention included providing AIG with an $85 billion loan in exchange for a significant ownership stake in the company Policymakers and financial authorities believed that AIG was "too big to fail" and that its collapse would have catastrophic consequences for the broader U.S and global financial systems AIG's interconnectedness with many other financial institutions and its role in the credit default swap market made it a critical focal point for government intervention to prevent a further systemic crisis (Turner, 2023)