The ECB vs the FED

And the ECB? – you will need to explain why the ECB has taken a different route in dealing with the crisis.

The European Central Bank has been participating by pouring money into the financial market since the credit crisis along with the Federal Reserve. The ECB was the first bank to save the markets from crashing at the start of the credit crisis in August. The ECB made an injection worth 150 billion Euros liquidity. Such high liquidity injected into the system was done so to prevent higher inflation. Further more, the ECB after several meetings regarding the crisis, indicated that it was in position to injecting more money into the markets. The ECB did not follow the United States when changing the interest rates dramatically. ECB kept its interest rate at 4 %, staying in the euro zone. ECB did manage to stir short-term interest rates at a good level but kept the long term interest rates at a very high level. The Federal Reserve on the other hand immediately lowered the discount rate to 5.75% at the start of the crisis which was a 50 % drop. The ECB is focusing more on keeping the inflation adapted to the euro zone such as keeping the interest rate around 4 %. The Federal Reserve is under pressure since the inflation broke out and believes the ECB has taken a very different path. The United State is focusing less on the economy’s health whereas Europe rather maintains its position within the euro zone. The two institutions are clearly standing on different stance. ECB has two goals in mind and one to keep the price stable and the second to filter in as much liquidity in order not to increase inflation. The ECB’s attitude is said to be of “strong vigilance” regarding inflation. The Federal Reserve is focusing more on repairing the subprime damages and gaining back confidence from the investors. It is clear that the ECB and Federal Reserve were not on the same page since the crisis last August 2007. The ECB was predicted to raise the rates by the last quarter of the year and the FED to lower the interest rates by 50%. The ECB wants to keep injecting liquidity in the money markets in order to keep the businesses working and contributing to the economy with the funds given by the banks. The President of ECB, Jean Claude Trichet stated while in a conference in Frankfort “to leave interest rate unchanged…” Although, interest rate are to be risen in the future quarters but in the meanwhile will stay in the euro zone.

The ECB believes by keeping the prices stable and the interest rate within the euro zone and delivering such goals will create stability, job creation, and sustainable growth not only for Europe but for the rest of the world. The ECB has created 15.7 million jobs since the 1999 crisis till now. Such statistics are reassuring to the ECB.

Why is the ECB taking another direction? All central banks experience uncertainty especially during a time of crisis. The economy depends on them since banks are the main source and control of money. It is difficult to trace back to the real causes of the economic fluctuations and finding a solution. Changes within the money system can cause a greater problem but is needed to overcome a recession or disastrous economic fall which could affect the world. The Federal Reserve and the European Central Bank are taking different steps and the outcomes can be negative or positive, uncertainty still remains. The ECB and FED have developed in different structures with different policies. The ECB wants to follow the single market policy implied by the European Union. The main goals of Europe are to increase employment, strengthen the euro, and become an open trade market. The ECB is clearly on the EU’s side by not changing the rates and injecting liquidity in the market regularly to keep the businesses running and help Europe create more jobs. ECB’s focus is based on the EU’s economy, achieving a single economic entity. Such initiative to change towards some policy never experienced before by any other nations is difficult to base past macroeconomics facts from the past and therefore find the right solution to calm the credit crisis. The ECB is part of a very different system than of the United States. Europe has experienced very fast changes such as the introduction of the Euro which has had a great impact on the EU citizens and the economy. Therefore Europe has some expertise regarding rapid changes in the economy.

As said before, ECB’s main goal is price stability as a monetary policy. ECB is also independent from the other financial institution and therefore owns a high credibility influence and trust among the EU citizens. The ECB is even part of a treaty therefore all the other central banks in Europe will follow the decision made. The mission of ECB is to create a trust bond with the citizens and the banks. In order to achieve such trust, transparency must be shown. Unlike the US, The EU does not have a federal structure which was a problem when the single currency was introduced and voted by the EU citizens. ECB and central banks in Europe are different than in the states because every day they gather large amounts of information and statistics. Such act helps the central banks in the EU stay transparent and for the detection of internal problems. The Federal Reserve keeps a lot of its information to itself and the federal government rather than sharing it with the public.

The Federal Reserve monetary policy concept is choosing between job creation and economic growth. The ECB believes the two concepts work together. The FED does not truly believe in price stability increasing economic growth and job creation. The FED is more focused on the inflation and filling in the gaps where subprime loans were defaulted. The Fed is also changing rates to calm the credit crisis. ECB believe price stability will help them achieve their goal of transparency so the public can be involved and trust the system. The FED relies on long term solutions to prevent recession from happening and discount rate manipulation as well as long term interest rates. The FED and ECB are similar in many ways but so far the ECB has been more transparent regarding its goals. The ECB along with the Federal Reserve have been the main players in saving the money markets from crashing till they decided to divert due to different economical interests. Central banks need to remain flexible when responding to crisis and set different ways of dealing with the problem for future crisis.

Giverny Lowe

The Federal Reserve and US government vs. Credit Crunch

What did the US government and the Federal Reserve decide to do? – You will need to describe the steps the US government and the Federal Reserve have taken to try to mitigate the crisis.

The Federal Reserve and the US government have initiated steps to cut down the crisis and build some liquidity in the severely damaged areas of the financial markets. The estimated damages of the credit crunch regarding the US could exceed over $1.5 trillion. The Federal Reserve is cutting rates in half of their original percentages and recently up to 3 quarters. Such action has pressured the main central banks such s the Bank of England, but it was necessary to help the credit crisis cool down. The Federal Reserve has also been given around $30 billion to the banks monthly in order for them to recuperate.

The Federal Reserve has though taken bigger steps recently on March 11, 2008 where it decided to increase the amount of money given to banks for the month of March. The amount will include $100 billion. This is done in order for banks to keep circulating money and lend to their customers. This action plan is due for 6 months and the Federal Reserve is entitled to donate more if the crisis does not slow down.

It is also central banks along with the Federal Reserve to provide the money markets with bullions of dollars. The European Central Bank and the Central Banks from Canada, Switzerland, along with the UK will partake in the action. Today, $200 billion is the amount of money that is going to be circulating and given to the money markets in order to boost the world economy. Banks are in some tension between each other because they hold enough money to lend but since the credit crunch erupted they are less tempted to make transactions with each other and believe that each bank has insufficient assets.

Many countries are under the credit crunch and are beginning to show negative signs that will not ameliorate soon such as inflation in Egypt, most EU countries and even in the Balkan region. The Credit Crunch has started in the US and has affected the world economy and many countries and economists believe that the US will enter recession. The US government and the Federal Reserve believe in their action plan. It is important to understand that there is a great loss of confidence within the financial system. Banks and the financial market are built among our confidence. Banks act as a trust system. In the short run, banks can keep injecting money into the financial markets to help the liquidity downturn. But in the long run, the situation may become shaky. Not all customers will be paid back and the people will help pay up for the debts through taxes. The US government has raised taxes as well as a solution to ease the credit crunch.

The Federal Reserve is taking some actions that can end up risky when using assets that could hold mortgage securities which were the initial spark behind the crisis. The US government and the Federal Reserve have agreed with the European Central Bank to lend funds in dollars. Such step is called a currency ‘swap’ agreement meaning that banks bid for around $30 billion in funds while the European Central Bank assigned a portion of the $15 billion agreed lent to the US Federal Reserve.

The Federal Reserve is not only helping banks out but investment houses such as the Wall Street one. This will help the financial markets access funds with more confidence. The Federal Reserve is ready to risk more and is most likely to impose a bigger cut on interest rates which will affect businesses and people but it is needed in order to keep the business world flowing. The past week, the Federal Reserve emerged out with a program that gives emergency loans to the top 20 dealers in the US. The dealers are investment banks and are connected to the Federal Reserve since they possess most of the Treasury securities.

Since the beginning of the credit crunch, the Federal Reserve has been cutting interest rates and discount rates, along with injecting assets in the money market and is now directly borrowing from banks in order to stir away from a recession in the United States. The credit crisis will not end so fast and it will take a world effort to resolve it.

-Giverny Lowe

Global Credit Crunch

Overview of the Global credit crunch

The ripple effect took place since the mortgage crisis in the United States. The US credit crunch went global and has been one of the worse. Banks in Europe along with mortgage lenders, and all the other financial institutions experienced the crisis. Most banks are connected and merged therefore it was bound that the crisis was going to extend abroad. At present, subprime losses around the world exceed $150 billion. European Banks such as IKB Deutshe Industriebank, Deutshe Bank, BNP Paribas, and NIBC have experienced the first wave of the ripple where billions were lost from the subprime department when the credit crunch occurred in the U.S. At the same time, the Dutch Bank NIBC lost over $180 million. Asia is soon to be under the knife regarding defaults in lending. U.S. bond insurers made exchanges as well in Asia. Banks that have invested into the U.S. mortgage market are bound to lose millions or billions of dollars. To lessen the crisis the Federal Reserve and other international banks such as the Central Bank in Japan gave over $30 million to the U.S. banking system. When the stocks went down in the U.S. due to the credit crunch so did the stocks in Europe an in part of Asia such as Japan, and South Korea.

The signs of the credit crunch in Europe started in September, 2007 after the collapse of the World’s Stock Market. It was somehow predicted due to the credit cycle and its history. European companies who had low credits were starting to be rejected by financial institutions when asking for loans. Loans were on hold in Europe due to the coming crisis. Mortgage companies no longer had easy access to money. The bad loans though still remained in the system. In early September, Mortgage companies in the United Kingdom such as Victoria Mortgages which was the first to fall into the turmoil and had 381 customers on hold. The Mortgage company like in the U.S. sold loans to unreliable borrowers.

European central banks were still not safe and were still holding the U.S. debt since U.S. bonds were bought. The start of the crisis in Europe affected the economy such as unemployment and the housing market going downhill and loosing customers. Asia was also affected in that area. On the 14^th of September 2007, another important British mortgage company called Northern Rock was financial stalled since it could not increase financing due to the credit crisis. The Bank of England responded to the event by giving money. The two events sparked a downturn for Europe where interest rates were bound to decrease, especially another decrease in the World Stock Market which followed shortly after the Northern Rock’s cry for help. The Bank of England warned for inflation due to the rapid change in interest rates.

Dark October 2007 is when banks experienced tremendous losses. UBS in Zurich lost 382 million Euros in result of mortgage crisis. Soon after, on October 5^th Merill Lynch experiences a loss of $4,500 millions. This loss affected all the banking systems related around the world. The 11^th of October, Russia’s central bank decreased its interest rates. Spain along with the U.K. experiences the mortgage crisis since its banks such as BBVA, and Banco Sabadell invested and lent loads to higher risk mortgages with higher interest rates. The Spanish Alert announced by the Spanish Prime Minister of Finance announces a slowed down growth of the economy for 2008. Growing unemployment, higher interest rates, and indebt Spanish householders is predicted. Near the end of October, the U.S. Federal Reserve lowers the interest rates by 4.5 %.

November 1st is when the Federal Reserve pumped $41 billions to Banks in order to allow them to borrow at a lower rate. This transaction of Money by the Federal Reserve was the most important since 911. Citigroup Turing the same month loose their CEO. Banks since September that have been trying to back up their securities regarding the loans and mortgages have lost over $30 Billions. Insurance companies are starting to panic. The American International Group, the world’s largest insurance company lost a large portion of its earnings due to the default loans. The financial institutions are experiencing a reduction in their capital. In the meanwhile, The U.K. predicts a downward change in its economy. The house market is in trouble since it cannot barrow as much as it could. Less spending among the population will occur which will slow the pace of the economy. The Banks have become vigilant with their movements of loans. On the other side the oil barrel is costing $ 94 and food prices are increasing in the U.S. and the majority of the E.U. countries, which predicts future inflation. Germany is approaching its elections and the decision regarding taxes is launched. Cuts in tax rates are preferred and the abolishment of the special tax for the Rich is soon to end. In conclusion, consumer spending in Europe is predicted to slow down.

December 2007, a harsh winter regarding the credit cycle. A freeze over the mortgages imposed by President Bush is limiting the movements of mortgages. Japan is starting to become more attentive to the global crisis since its economy relies largely on consumption. The subprime-mortgage crisis will eventually have an impact over the Japanese companies and profits will be affected. Nevertheless, Japan’s capital continues to prosper. The Bank of England reduces the interest rates from 5.75 % to 5.5 %. On the hand, The U.S. could fall into a recession if the mortgage crisis continues to rise. On December 12th, Central Banks such as the Bank of Canada, Swiss National Bank, the European Central Bank, and the Bank of England collaborated in “Easing the Liquidity Squeeze.” Furthermore the Bank of England decided to give 20 billion pounds in a period of 3 months to the money markets. The Central Banks goals are to straighten out the money markets. The engagement made by the central banks is nevertheless a threat to the world economy since it is taking the money from the economy rather than the banks itself due to a lock down. The banks can be held responsible for a downturn in capital and liquidity of the countries. Borrowing is also harder therefore halting companies from adding to the capital.

January is a difficult month for China, and is under the pressure of the ripple effect hitting the Chinese central banks due to the default mortgages and increase credit risks. Australia could also become the next victim since they have to pay a higher price to borrow money from international markets. For the past decade, Australia has been borrowing from international financial institutions including the U.S. The Australian credit growth also ranks as third in the world. On January 12^th, the U.S. Federal Reserve auction $ 30 Billions worth of funds to the banks at an interest rate of around 3%. The Billions auctioned are in all hope to calm down the credit crisis and avoid recession.

February remains another worry and the Federal Reserve is still injecting money to the banks hoping the ease the problem. The economy seems to weaken in the U.S. and soon in Europe. Inflation is a result if the money market and banks continue to head downwards. The Credit Markets have still not reached that safety zone and in the long run bankruptcy along with recession could happen in the year 2008. Not to forget that Oil also plays an important key role because oil prices can increase for the next two years therefore the economies of the Americas and Europe will be damaged first fairly quickly. Credit Suisse announced on February 19^th, a $2.85 billion mistake. Customers are bound to be lost regarding Credit Suisse. On the bright side, BNP Paribas France, and Barclays from the U.K. have agreed to work together in fixing and recuperating the subprime assets.

Giverny Lowe

The Causes of Credit Crisis

Blog 1 – The causes of the credit crisis – you will need to look in the months of July to September 2007.

The causes of the credit crisis are linked to different factors. The crisis first started in the United States where its economy had been pretty stable over the past decades. The crisis in the U.S. was sparked by the mortgage crisis for homes. Houses in the U.S. are on sale at their lowest costs. Loans were borrowed constantly and numerous debtors never met the responsibilities or requirements of the agreement made on “subprimes.” The loans were at a higher risk therefore the consequences were bound to be harsh. The rate for the share of subprime mortgages signed up by many Americans was high and led to believing that financing for the buyer of loans was to be easier to pay for in shorter terms. Although a turning point occurred when house prices suddenly started shooting down after 2006 and on. When the prices for houses go down, covering the debt becomes uneasy since an increase of people started to buy loans without really applying to them legally also known as defaults. Defaults increased so high that it reached around $300 billon in credit affecting directly the lenders of mortgages who had no real safety regarding possible crisis. In the U.S. Mortgage payments are broadly used now days and there are consequences such as citizens not being able to meet their payments or the rates for mortgages increases. When house prices go down, refinancing is not met and therefore a credit crisis occurs being part of the economic cycle. When loans suddenly become more expensive it is known as a credit crunch. Due to the decline in the house prices, banks and borrowers make the access to buying loans more difficult and set them at a higher rate. A prediction of America’s economy was negative therefore banks took action in putting some restriction and security regarding the loans in order not to hinder the banking system which involves the rest of the world. Interest rates are raised as well as a result and first by the main central bank affecting all others. The credit crisis spread as banks work together internationally. It is like a ripple effect started first in the U.S. For instance, recently the UBS Swiss bank in Zurich for the first time faced a full year net loss resulting from the loss of 18 billion dollars in the US subprime mortgage crisis.

Another factor is weak monetary policies within the central banks. Lending became too easy and now banks are trying to straighten up and strengthen the policies. Which is why lending today is difficult. Globalisation also plays an important key role since banks are all inter connected causing a ripple effect. Therefore everyone suffers in the end. As illustrated above how Zurich lost a lot of money after the U.S. Central banks also went wrong by keeping the interest rate at a low rate too low to recover any losses. The low interest rates from 2001 to 2003 helped nourish to house market. But the consequences had to occur where borrowers find themselves in debts and lenders not being able to lend as much as they could. Central banks also lacked responsibility regarding the financial changes in their systems. Banks emphasized on inflation and other short terms outcomes rather than long term outcomes such as losses due to credit. The only reaction is to increase rates. Liquidity risks were also not taken into strict account.

Numerous investors issue loans to people. Going through lenders is easier since they are high risk takers and do not require as much as a bank would. If the asset of what the mortgage is covering decreases in price then losses will occur for the banks and investors. An important key component to credit crisis that occurred in the U.S. was partially do to lending to an important part of the population and the immigrants such as African Americans, Mexicans, and others. They applied for mortgages not knowing the consequences which led to serious debts. Those populations were not properly informed about the risks and rules and often apply for them thinking that they will make enough money the pay it back since most of them have a small allowance.

Before credit losses occurred the economy was doing well such as low inflation, increase house prices and other increasing positive factors led lenders to take higher risks. The outcomes were too good at one point and due to the credit cycle had to fall straight down. In conclusion, a lesson has been learned for the future.

Giverny Lowe