Financial Crisises

The Uncertain Future of the Modern World

NESNewEconomicSchool

Berkausov AntonBondar SvetlanaDunaev IlyaKondratovich DmitriiKurbatov ConstantineMikheev Petr

Financial Crisis

Financial crisis —A situation in which the value of financial institutions or assets drops rapidly.

Banking panics Recessions Stock market crashes Burst of financial

bubbles Currency crises Sovereign defaults

Financial Crisis

What is going on?

Macroeconomic risks remain unchanged, but global activity has become more uneven and is projected to expand only modestly in 2014.

Emerging market risks have increased as the result of weaker growth prospects and rising domestic and external vulnerabilities.

Market and liquidity risks have increased as markets adjust to prospects of reduced monetary accommodation with implications for asset prices.

Risk appetite has contracted, resulting in reversals of capital flows to emerging markets.

Monetary and financial conditions remain broadly accommodative, as lending conditions have improved, but emerging market risk premiums have risen.

Credit risks are broadly unchanged, reflecting the uneven progress in balance sheet repair and pressures on euro area banks.

SWOT Analysis

Negative Positive

Internal Factors

• The sovereign debt crisis in Europe• Slowing of economies is the cause of

high volatility of energy supply/demand (derivatives)

• The evolving of building bubble in China (overheating of the economy, where growth is not supported by real demand)

• The concentration of derivatives in the hands of the major players (systemic risk)

• Increased quality of risk management (BASEL-III)• Investors are dismayed• Improving the regulation of markets• Increasing investment in Africa• The real easing of the monetary policy in Europe• Expansion of the WTO — less chance of erecting

trade barriers• Policymakers are interested in preserving the

Eurozone• There is a gradual deleverage in the markets• Scientists macroeconomists are at the head of

Central Banks in the leading countries• Slow but real growth in the U.S. (the World

major)

External Factors

• Shale sources may be overvalued• Crop failure• Major war in the Middle East (Israel)• The aging of the population• Cancellation of offshore opportunities

• Technical progress (new sources of demand)• Climate warming provides new sources of energy

and new features (for example: Northern Sea Route, oil & gas)

Crisis Scenarios

Flight to Quality:Fixed Income Bubble Burst

Distrust in Europe:Lack of Refinancing

Flight to Quality 1. Fixed Income

Bubble Inflation

US Government targeted to:

Decrease unemploymentStimulate economical growthDecrease inflation

US Treasuries dumped over last 6 years

As a result capital flew into risk

Increasing prices of high yield bonds stimulated further growth of the bubble

High yield bonds rates decreased

October 1, 2007

October 1, 2013

October 1, 2007

October 1, 2013

www.bloomberg.comGlobal Debt doubled over past 10 years from $78 trn in 2000 to $158 trn in 2010Debt grew faster than GDP: Global Debt/GDP=218% in 2000 and 266% in 2010$48 trn of the growth is due to the governments debt and financial institutionsGovernment debt was the fastest growing category (increased by $25trln)But financial institutions debt was larger class (increased by $23 trn)Unsecuritized lending is still the largest component of all debt and grows futher

Flight to Quality 1. Fixed Income

Bubble Inflation

National governments injected liquidities in banks which are not willing to invest in real economy and invest it in financial industry further inflating the bubble.

SPX VIX index (implied volatility of options on S&P 500) and S&P 500 look very similar to 2007 pattern

CBOE S&P 500 3-Month Volatility Index (VXVCLS) is relatively low www.stockcharts.comwww.bloomberg.com

Flight to Quality 2. Fixed Income

Bubble Burst

USA is close to the targets:

Decrease unemployment (target is 6%)

Stimulate economical growth

Stable above zero inflation (Fed’s target is 2%)

QE ending induces flight to quality:

Investors close out speculative positions and

move funds in developed countries reducing

liquidity and refinance, which will induce

currency crises and high yield bonds defaults.

These defaults will break a meaningful gap in

accounts, which will force selling high liquid

assets to cover these gaps. It will ignite the new

stage of world financial crisis due to rapid price

fall...

Sources: Labor Department (consumer prices, wages); Commerce Department (PCE prices); Labor Department via the Federal Reserve Bank of St. Louis (initial claims). The Wall Street Journal

Source: The Wall Street Journalhttp://www.economonitor.com

www.financialsense.com

www.eia.gov

Distrust in Europe

Risk factors: The heterogeneity of the European

economy Source of financing - banks (not the

stock markets in the U.S.) Inability to stimulate economic

growth in the peripheral countries - due to regulatory and taken "educational measures" (exit from the Euro?)

Distrust in Europe

Now Investors believe that ECB will coupe with PIIGS

If the policymakers of problematic countries do not find solutions (at a minimum, will increase labor productivity) for sustainable economic growth in their countries, it would disappoint investors will stop refinancing these countries

If these countries will default it will throw many of big European banks into deep troubles.

These banks will be forced to sell good assets to cover loses (ECB cannot cover such big loses without provoking high inflation)

Distrust in Europe

Distrust in Europe

New regulations will slow down aggressive credit activity inducing:

High yield bonds defaultsLiquidity crisis Lack of refinancingDecrease inflation

Sovereign default of the South Europe

Such default will impose huge losses of capital in big European banksThe main flaw — there is no one know what bank or funds will sunk (powered by unsecured CDS)Credit crunch and bank runDeep recession due to tough money market

Things will work out!!!

Anti-crisis measures include: 1. Investments, funding programs, decrease of rates, tax

reduction, demand regulatory actions2. Infusion of new money and support to important banks,

corporations, financial institutions which are in trouble. 3. Reforms and acts

*1) http://timesnet.ru/economy/789/*2) Мировая экономика: глобальный финансовый кризис - Бураковский И.В.

Coordination

Coordination between financial institutions and

development of cure mechanisms and preventive

measures (ЕС and G-20)1

Operational

Implementation of anti-crisis measures an follow-

up control on all levels (IMF, ECB, etc.)2

MEASURES

Long term — Reforming

US:1. December 11, 2009 – House cleared bill H.R.4173 – Wall

Street Reform and Consumer Protection Act of 2009.2. On April 15, 2010 – Senate introduced bill S.3217 –

Restoring American Financial Stability Act of 2010.3. On July 21, 2010 – the Dodd–Frank Wall Street Reform and

Consumer Protection Act was enacted.

EU: 4. European Stability Mechanism (ESM) -permanent rescue

funding program5. Basel III regulations for banks 6. European fiscal union7. Wealth tax8. Eurobonds9. European Monetary Fund

Things will work out!!!

Short term measures (applied already):1. Liquidity injection support of domestic demand/reboot of

economic processes/to avoid credibility gap 2. Decrease of the basis interest rate

Thank you for your attention!

MiF 2015