STOCK MARKET

Facts about the financial crisis of 2008

Share Shah

Today the Wall Street and many stock markets of the world have collapsed as a result of defaults and credit crunch. The US government has taken unheard of steps to bale out many major investment companies. The belief that the market will correct itself is no longer an acceptable paradigm. The Republicans who always believed in the least amount of government intervention have reversed their stance and have taken far reaching steps to save many financial institutions.
   
   The root cause
   We hear that the root cause of this crisis is the sub prime mortgages default. This default led to the non performance of CDOs whose risks were covered by the financial companies. This led to the inability of financial companies to honour their obligations and eventual seeking bankruptcy.
   
   What really happened?
   Firstly we must try to understand what is sub prime? In order to understand sub prime, we must try to understand what is prime? In US banking parlance prime means the best quality of collateral given by the borrower. For instance if I want to borrow some money from the bank; it will ask for collaterals. I could offer them say Taka one million worth of government bonds against which they would lend me, say 80 per cent of the value. This is a safe and prime quality collateral because the government will redeem the bonds any time for the face value. But suppose I offered the bank 20,000 units of Grameen2 mutual funds having a market value say, Taka one million as collateral against my loan application. Now the bank has two options: it could lend me 80% of the market value of Taka 50 or it would look into the Net Asset Value of the fund which is less than Taka 10 and be prepared to lend me Taka 80 per cent of the NAV. So, in the first case I would get 80 per cent of Taka one million or Taka 800,000 which is sub prime and in the second example I would get Taka 160,000 which is prime quality. Because when the stock market bubble collapses the price of the mutual fund may not even be Taka 10.
   
   Sub prime mortgages
   Not unlike our builders there was a belief amongst the US real estate agents and lenders that property market will always go up. As such property values were always overestimated by lending agencies. Moreover proper care was never taken to evaluate the net worth or repayment capability of the borrowers. This is not unlike the current situation in our housing market. The values have appreciated beyond past conception and banks are forgetting to really look into the cash flow of the buyers. As we do not have a developed market for houses, there is always a danger of not only default but inability to dispose off the mortgaged property at a reasonable price because the housing market is illiquid. That is, it is not easy to sell property instantly.
   
   How does it influences market?
   In the 1980s a new concept of what is today called securitization was developed in the USA. Generally know as collateralized debt obligations (CDO), which were in fact complicated securities which pooled all the mortgages into a single instrument; not unlike mutual funds which pool in equity shares. Many money market investors particularly foreign central banks, insurance companies, mutual funds were attracted as these gave higher returns than US treasury bond. But the story does not end here; the big banks and finance companies leverage these CDOs i.e. borrowed money against these and created more CDOs. While selling these institutions guaranteed the risk. But then they were over exposed having often borrowed more than 30 times of their equity!
   
   The little guy caused it…
   The mortgage market collapsed because the borrowers could not pay his instalments. The CDOs collapsed because there was no pay back and lost its market value. This in turn forced institutions to sell more of their equity to raise capital to cover the guarantees given to CDO buyers to buy back resulting in dilution and further fall in price. Eventually the institutions were no longer capable of covering their risks and pay back. So they defaulted and had to seek bankruptcy protection under US law which is known as Chapter 11. They refused to lend to each other because of fear of default thus the credit crunch. Without credit life or business cannot go on.
   
   The greed
   The greed of the US investment bankers is beyond our comprehension. The CEO pays and commissions exceed anything we can equal. So it is doubted they have often created illusions of profitability and walked away with fat bonuses with little respect for the people they left behind. US SEC stopped short selling so that some predators do not take undue advantage of the falling market.
   Bailout by US govt.
   The non payment of CDOs resulted in failures of some banks in UK and Europe. Many pension funds have been affected. In USA Bear Stearns was merged with J P Morgan Chase. Earlier Citibank faced restructuring. The two big mortgage institutions popularly known as Freddie Mac and Fannie Mae were supported by the government, otherwise the effect of the mortgage market on people would be gigantic. Merrill Lynch was taken over by Bank of America and Lehman Brothers has to be sold in pieces. Goldman Sachs and Morgan Stanley are being reorganized into banking holding companies so there will be more oversight by the central bank.
   
   The new order
   The stock market crash of 1929 resulted in the bifurcation of commercial banks and investment companies. Only recently we have seen that once again they are permitted to venture into each others territory. Today we see the demise of the regulation free US investment banking concept and the rise of more regulations and more oversight. Surely if the Wall Street takes government’s money they cannot object to government intervention any more.

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Anisur Rahman in Stockholm

International trade fair held in the Swedish capital in the last week of August attracted 10,79 foreign visitors on conducting their autumn buying round, according to a press release issued by the fair authorities.
   A total of 24,919 trade visitors attended the fair, widely known as Formex Stockholm saw the show strengthen its position as Scandinavia’s leading trade fair for home furnishings, design and gifts.
   The show also introduced several new initiatives intended to give the event a more distinctive, design-focused image.
   Among the foreign visitors mostly are from countries such as the US, Germany, Switzerland, China and Italy.
   The number of accredited media representatives increased by almost 19 per cent, from 647 to 768.
   ‘This autumn’s visitor numbers confirm that Formex Stockholm is the leading marketplace for the Scandinavian home-furnishing and gift trade,’ said Maria Strandberg Torén, Formex Stockholm project manager.
   ‘The mood out there on the show floor was extremely upbeat, and the air was teeming with good business deals. We also received plenty of positive feedback on our new initiatives.’
   The new Formex Cut section presented the latest products in home furnishings, textiles and crafts. To ensure a high standard, the products were chosen by a jury of recognized experts.
   ‘We are really impressed with the Formex Cut format. The concept of selectively exhibiting new one-of-a-kind products can only go from strength to strength,’ commented Hans Hjelmqvist, marketing manager at Design House Stockholm.
   ‘We had an excellent response to our new products, and it’s always good to meet new customers, trendsetters and opinion formers and get an immediate reaction.’
   Another new section was Young Designers, focusing on up-and-coming designers who are not yet well established.
   “Young Designers was an excellent and hugely enjoyable initiative, and our visitors would agree with me,” said designer Lisa Bengtsson. ‘The entire setting was stylish and well planned. The integral café encouraged people to stop for a sandwich or a beverage and hang out in this section. I hope there will be even more of us Young Designers at future shows.’
   The next Formex Stockholm takes place on 15–18 January 2009.

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World bank to help the urban poor
in Bangladesh

Holiday Report

National Social Protection Project (NSPP), World Bank-supported project under preparation is expected to reach around one million urban poor using conditional cash transfers and early childhood development services.
   A World Bank team recently concluded a preparatory visit for the proposed to discuss project design and adjustments with the newly appointed implementing agency – Palli Karma-Sahayak Foundation (PKSF).
   Rapid urbanization in Bangladesh has increased urban poverty significantly. Life of the urban poor is very hard, with highly insecure tenure and livelihoods, the need to pay for almost all services, and the increased burden of disease from unhealthy environments due to inadequate or non-existent municipal services, safety net programs and social services. It is very hard for the urban poor to meet the educational and nutritional need for their children, which makes it more important to expand social safety net programs to urban areas.
   The project’s conditional cash transfer program will supplement incomes and give families the co-responsibility of ensuring that their children are enrolled in and attend school. Cash benefits paid will be contingent on beneficiary children regularly attending school. The early childhood development services will establish daycare facilities, in urban slums, providing nutritional and stimulation activities for children under school-going age.
   PKSF’s partner organizations will implement the conditional cash transfer and early childhood development components. Additionally, in developing a Social Protection Strategy, PKSF would take on a facilitating role given the scope of their mandate.

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