Font Size

Cpanel

VSE 185-186 - Vie et Sciences de l'entreprise - Crises et Mutations

Governement policy, Bank's strategies and the Financial Crisis : Contagion through Interconnectedness

Écrit par Aidan O’CONNOR Professeur à l’ESCEM, France, et Professeur Visitant à l’Université d’Osnabrück, Allemagne

Abstract :

The catalyst for the financial crisis that commenced in 2007 was a decline in residential property values in the US following significant inflation, a sector to which banks had been increasingly lending and had widened their market to include lending to non-prime customers often through non-bank intermediaries. These financial assets were distributed and securitised and acquired by financial institutions and institutional investors in many different countries. It is argued that banks’ strategies were in response to government policies and demand from global investors. There was an effect on financial markets and economies and also on financial institutions. One particular bank was Northern Rock which had to be nationalised by the government due to the unsustainability of its funding model. The focus of this article is to determine and assess the conditions, causes and catalyst for the financial crisis.

Keywords : Financial crisis, banking industry, residential property policy, interest rate policy, global savings, bank strategies, securitisation, asymmetric information, northern rock

Résumé :

Le catalyseur de la crise financière qui a commencé en 2007 a été la chute de la valeur de l’immobilier résidentiel aux Etats-Unis faisant suite à une inflation significative. Cette chute touche un secteur auprès duquel les banques ont accru leurs engagements jusqu’à prêter à des clients fragiles, souvent à travers des intermédiaires non bancaires. Ces actifs financiers ont été distribués, titrisés et acquis par des investisseurs financiers et institutionnels dans de nombreux pays.
Il est montré que les stratégies des banques ont été une réponse aux politiques nationales et à la demande des investisseurs mondiaux. Il y a eu un effet sur les marchés financiers, les économies et les institutions financières. En particulier, Northern Rock est une banque qui a du être nationalisée en raison d’un modèle de financement insoutenable. L’objet de cet article est de déterminer et d’évaluer les conditions, causes et catalyseur de la crise financière.

Mots clés : Crise financière, secteur bancaire, politique en matière d’immobilier résidentiel, politique de taux d’intérêt, investissements mondiaux, stratégies bancaires, titrisation, information asymétrique, northern rock

INTRODUCTION

The financial crisis that commenced in 2007 and gathered momentum for a year before the defining event, the bankruptcy of Lehman, had its origins in government residential property policy and monetary policy in the US, along with the inflow of foreign capital, due to high external savings, especially in Asia, and a demand by investors for highly rated securities. The effect of such policies and market conditions was that banks responded and targeted non-prime individual customers to extend their customer base and geographic market. They also had a strategy to originate mortgages and distribute, or sell, them to other financial institutions, such as investment banks, that later securitized these mortgages and sold them to other financial institutions and institutional investors. These government policies and bank strategies had the effect of creating residential property inflation.

The catalyst for the financial crisis was the decline in residential property values, the underlying asset for the residential property mortgage related securities, and investors re-evaluating their investments. With the decline in value of these mortgage related securities, held mostly by financial institutions and institutional investors in many different jurisdictions, there was, eventually through this interconnectedness, contagion in the financial system affecting financial institutions and financial markets globally, as well as, the wider real economy.

The hitherto efficiently functioning interbank and wholesale financial market effectively discontinued functioning as financial institutions were unsure of the counterparty risk of other financial institutions. Commercial paper and repurchase agreements (repo) markets were closed to many financial institutions and securitisation as a means of funding was unavailable. Financial institutions were striving to maintain adequate capital levels. Some financial institutions were unable to continue trading and required government support due to illiquidity although they may have been solvent. One such institution was Northern Rock plc based in the UK, a bank that was not directly exposed to sub-prime residential property markets and had become illiquid due to the wholesale money markets liquidity crisis.

While it is often considered that the decline in residential property price was the catalyst for the crisis it was not the cause of the financial crisis per se. The cause was asymmetric information and opacity, and also an acceptance of an unviable assumption of risk in financial instruments and markets and banks’ lending policies and funding models.

Vous êtes ici : VSE 185-186 - Crises et Mutations Governement policy, Bank's strategies and the Financial Crisis : Contagion through Interconnectedness