Financial crisis of 2007–2008

The financial crisis of 2007–2008, referred to in the media as "the credit crunch" or "the credit crisis", first became apparent on August 9, 2007, when a loss of confidence by investors in the value of securitized mortgages in the United States resulted in a liquidity crisis which prompted a substantial injection of capital into financial markets by the Federal Reserve and the European Central Bank. [cite web | url=http://www.nytimes.com/2007/08/10/business/10liquidity.html | title=A New Kind of Bank Run Tests Old Safeguards | author=Floyd Norris | work=The New York Times | date=August 10, 2007] cite web | url= http://www.guardian.co.uk/business/2008/aug/05/northernrock.banking | title=Credit crisis - how it all began] Suddenly, one August day last year shook the world, turning an Edwardian summer of prosperity into a grim financial crisis | author=Larry Elliott | work=The Guardian | date= August 5 2008 ] The TED spread, an indicator of perceived credit risk in the general economy, spiked up in August 2007, remained volatile for a year, then spiked even higher in September 2008. [ [http://www.bloomberg.com/apps/cbuilder?ticker1=.TEDSP%3AIND "3 year chart"] TED spread Bloomberg.com "Investment Tools"]

Historical background

The initial liquidity crisis can in hindsight be seen to have resulted from the incipient subprime mortgage crisis. One of the first victims outside the US was Northern Rock, a major British bank. [cite web | url=http://www.bankofengland.co.uk/publications/news/2007/090.htm | title=News Release: Liquidity Support Facility for Northern Rock plc| author= HM Treasury, Bank of England and Financial Services Authority | date= September 14, 2007] The bank's inability to borrow additional funds to pay off maturing debt obligations led to a bank run in mid-September 2007. The highly leveraged nature of its business, unsupportable without fresh infusions of cash, led to its takeover by the British Government and provided an early indication of the troubles that would soon befall other banks and financial institutions.

Excessive lending under loosened underwriting standards, which was a hallmark of the United States housing bubble, resulted in a very large number of subprime mortgages. These high-risk loans had been perceived to be mitigated by securitization. Rather than "mitigating" the risk, however, this strategy appears to have had the effect of broadcasting and amplifying it in a domino effect. The damage from these failing securitization schemes eventually cut across a large swath of the housing market and the housing business and led to the subprime mortgage crisis. The accelerating rate of foreclosures caused an ever greater number of homes to be dumped onto the market. This glut of homes decreased the value of other surrounding homes which themselves became subject to foreclosure or abandonment. The resulting spiral underlay a developing financial crisis.

Initially the companies affected were those directly involved in home construction and mortgage lending such as Northern Rock and Countrywide Financial. Financial institutions which had engaged in the securitization of mortgages such as Bear Stearns then fell prey. On July 11, 2008, the largest mortgage lender in the US collapsed. IndyMac Bank's assets were seized by federal regulators after the mortgage lender succumbed to the pressures of tighter credit, tumbling home prices and rising foreclosures. That day the financial markets plunged as investors tried to gauge whether the government would attempt to save mortgage lenders Fannie Mae and Freddie Mac, which it did by placing the two companies into federal conservatorship on September 7, 2008 after the crisis further accelerated in late summer.

It then began to affect the general availability of credit to non-housing related businesses and to larger financial institutions not directly connected with mortgage lending. At the heart of many of these institution's portfolios were investments whose assets had been derived from bundled home mortgages. Exposure to these mortgage-backed securities, or to the credit derivatives used to insure them against failure, threatened an increasing number of firms such as Lehman Brothers, AIG, Merrill Lynch, and HBOS. [ [http://www.nytimes.com/2008/09/19/business/economy/19econ.html "Pain Spreads as Credit Vise Grows Tighter"] article by Louis Uchitelle in "The New York Times" September 18, 2008 ] [http://www.nytimes.com/2008/09/15/business/15lehman.html "Lehman Files for Bankruptcy; Merrill Is Sold"] article by Andrew Ross Sorkin in "The New York Times September 14, 2008] [ [http://www.nytimes.com/2008/09/18/business/worldbusiness/18lloyds.html "Lloyds Bank Is Discussing Purchase of British Lender"] article by Julia Werdigier in "The New York Times" September 17, 2008] Other firms that came under pressure included Washington Mutual, the largest savings and loan association in the United States, and the remaining large investment firms, Morgan Stanley and Goldman Sachs. [ [http://www.nytimes.com/2008/09/18/business/18wamu.html "Washington Mutual Is Said to Consider Sale"] article by Geraldine Fabrikant in "The New York Times" September 17, 2008 ] [ [http://www.nytimes.com/2008/09/18/business/18wall.html "As Fears Grow, Wall St. Titans See Shares Fall"] article by Ben White and Eric Dash in "The New York Times" September 17, 2008 ]

Developing global financial crisis

Beginning with bankruptcy of Lehman Brothers on Sunday, September 14, 2008, the financial crisis entered an acute phase marked by failures of prominent American and European banks and efforts by the American and European governments to rescue distressed financial institutions, in the United States by passage of the Emergency Economic Stabilization Act of 2008 and in European countries by infusion of capital into major banks. As the crisis developed, stock markets fell worldwide, and global financial regulators attempted to coordinate efforts to contain the crisis. Falling prices due to reduced demand for oil, coupled with projections of a global recession, brought the 2000s energy crisis to temporary resolution. [ [http://www.nytimes.com/2008/10/11/business/worldbusiness/11oil.html "Forecast for Global Oil Demand Cut"] ]

Projections

A number of commentators have suggested that if the liquidity crisis continues, there could be an extended recession or worse. [ [http://www.nytimes.com/2008/09/26/business/26assess.html "Credit Enters a Lockdown"] "Economic memo" by Peter S. Goodman in "The New York Times September 25, 2008] The continuing development of the crisis prompted fears of a global economic collapse. [cite news
url=http://www.washingtonpost.com/wp-dyn/content/article/2008/10/06/AR2008100603249.html
title=Unfolding Worldwide Turmoil Could Reverse Years of Prosperity
publisher=The Times
date=2008-10-07
accessdate=2008-10-07
first=David
last=Cho
coauthors=Binyamin Appelbaum]

Timeline of events

Background

*Subprime mortgage crisis

Events of 2007

*Liquidity crisis emerges August 9, 2007 [" [http://www.nytimes.com/2007/08/10/business/worldbusiness/09cnd-eurobank.html?_r=1&hp&oref=slogin Big French Bank Suspends Funds] ", "New York Times", 9 August 2007] [ [http://www.nytimes.com/2007/08/09/business/09cnd-stox.html "Dow Falls 387 Points on New Loan Fears"] ]
*Northern Rock sought and received a liquidity support facility from the Bank of England on September 14, 2007 [cite web |title=Bank of England|Publications|News|2007|Liquidity Support Facility for Northern Rock plc - Tripartite Statement by HM Treasury, Bank of England and Financial Services Authority |url=http://www.bankofengland.co.uk/publications/news/2007/090.htm |accessdate=2008-02-20 |date=2007-09-14]
*Record high US stock market October 9, 2007 Dow Jones Industrial Average (DJIA) 14,164 [ [http://www.the-privateer.com/chart/dow-long.html Chart of the Dow Jones Industrial Average] ]

Events of 2008

*January 2008 stock market volatility
*On February 22, 2008 Northern Rock was taken into state ownership (see Nationalisation of Northern Rock)cite web |url=http://news.bbc.co.uk/1/hi/business/7249575.stm |title=Northern Rock to be nationalised |publisher=BBC News |date=2008-02-17 |accessdate=2008-04-08]
*Bear Stearns (takeover in March)
*Federal takeover of Fannie Mae and Freddie Mac
*Global financial crisis of September–October 2008
**American International Group
**Merrill Lynch
**Lehman Brothers, Bankruptcy_of_Lehman_Brothers (September)
**Washington Mutual, sold by FDIC to JPMorgan Chase
**Bradford & Bingley is nationalised by the British Government and the saving portion is sold to Abbey.
**Wachovia's banking assets were to be acquired by Citigroup [cite news|url=http://www.marketwatch.com/news/story/citigroup-acquire-wachovias-operations-us-backed/story.aspx?guid=633CD0D5-5FFA-42B8-BBF3-0E6402BEE599&dist=SecMostRead|title=Citi to acquire Wachovia's banking operations|publisher=MarketWatch|date=2008-09-29|accessdate=2008-09-29] , but then a merger with Wells Fargo was announced [cite news
url=http://www.nytimes.com/2008/10/04/business/04bank.html
title=Wells Fargo Swoops In
publisher=The New York Times
date=2008-10-03
accessdate=2008-10-04
first=Eric
last=Dash
coauthors=Ben White]
**U.S. legislative proposals are made to provide economic rescue
**Hypo Real Estate (Germany, October)
**2008 Icelandic financial crisis (Nationalization of Icelandic banks, October)
** October 9 - 10, 2008 - Dow Jones Industrial Average falls to around 8500.

ee also

*Deposit insurance
*Mark-to-market accounting
*Global financial crisis of September–October 2008 for the resulting global sharp reductions in the value of equities (stock), financial instruments, and commodities worldwide.

References

The initial articles and some subsequent material were adapted from the Wikinfo article "Financial crisis of 2007-2008" http://www.wikinfo.org/index.php?title=Financial_crisis_of_2007-2008 released under the

External links

* [http://www.nytimes.com/interactive/2008/10/08/business/economy/20081008-credit-chart-graphic.html Credit Crisis Indicators (Updated daily)] - Five ways to measure recent market disruption, from the New York Times