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Transcript of Recession in America
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RECESSION IN UNITED STATES
OF AMERICA
1
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WHAT IS RECESSION ?WHAT IS RECESSION ?
In economics, the term recession describes the reduction
of a country's gross domestic product (GDP) for at least two
quarters.
A R ecession is a contraction phase of the business cycle.
National Bureau of Economic R esearch (NBER) is the
official agency in charge of declaring that the economy is in
a state of recession.2
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They define recession as :
³significant decline in economic activity lasting more than a
few months, which is normally visible in real GDP, realincome, employment, industrial production, and wholesale-
retail sales´.
3
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Indicators to say a nation is in recession;
- People buying less stuff - Decrease in f actory production
- Growing unemployment
- Slump in personal income - An unhealthy stock market
HOW TO KNOW RECESSION?
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WhatWhat
CausesCausesRecession ?Recession ?
WhatWhat
CausesCausesRecession ?Recession ?
5
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An economy typically expands for 6-10 years and tends to
go into a recession for about six months to 2 years.
A recession normally takes place when consumers loose
confidence in the growth of the economy and spend less.
This leads to a decreased demand for goods and services,
which in turn leads to a decrease in production, lay-offs and
a sharp rise in unemployment.
Investors spend less as they fear stocks values will f all
and thus stock markets fall on negative sentiment.6
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U.S ECONOMIC RECESSION HISTORY
TheUnited States has encountered32 cycles of expansions and contractions, with
an average of 17 months of contraction and 38 months of expansion. Let¶s see adetail history of economic recession in theUnited States -:
Late 2000's Recession
Early 2000's Recession
1990's Recession
1980's Recession
1970's Oil Crisis
Late 1960's Recession
Early 1960's Recession
Late 1950's Recession
Early 1950's Recession
Late 1940's Recession
Recession of 1945
The Great Depression
Recession 1926
Post World War I Recession
Panic of 1907
1870's Recession
1890's Recession
Panic of 1857
Panic of 1837Depression of 1807
Panic of 1819
Panic of 1797
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U.S.A ± Consumption based Economy.
2/3r d Economic activity i.e. GDP ±
comes from consumers. Credit - free flowing for U.S consumers
9
Credit car d loans for personalconsumption
Auto loans for purchase of cars
Home loans for purchase of houses
(SUBPRIME CRISES)
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For inter nal use only
WHAT IS A SUB-PRIME LOAN? In the US, borrowers are rated either as µprime¶ - indicating that they have a
good credit rating based on their track recor d - or as µsu b-prime¶, meaning
their track recor d
in repaying loans has been below par.
Loans given to su b-prime borrowers, something banks would normally bereluctant to do, are categorized as su b-prime loans. Typically, it is the poor and
the young who form the bulk of su b-prime borrowers
WhatWas The Interest Rate On Sub-prime Loans?
Since the risk of default on such loans was higher, the interest rate charged onsu b-prime loans was typically about two percentage points higher than theinterest on prime loans. This, of course, only added to the risk of su b-prime
borrowers defaulting.
The repayment capacity of su b-prime borrowers was in any case dou btf ul. Thehigher interest rate additionally meant su bstantially higher EMIs than for prime borrowers, f urther raising the risk of default.
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WHYLOANSWERE GIVEN?
In roughly five years leading u p to 2007, many banks started givingloans to su b-prime borrowers, typically through su bsidiaries.
They did so because they believed that the real estate boom, whichhad more than dou bled home prices in the US since 1997, would
allow even people withdo
dgy cre
dit backgro
un
ds to repay on theloans they were taking to buy o r build homes.
Government also encouraged lenders to lend to su b-prime borrowers,arguing that this would help even the poor and young to buy houses.
With stock markets booming and the system flush with liquidity, many big f und investors like hedge f unds and mutual f unds saw su b-primeloan portfolios as attractive investment opportunities. Hence, they bought such portfolios from the original lenders. This in turn meantthe lenders had fresh f unds to lend. The su bprime loan market thus
became a fast growing segment.
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HOWDID THIS TURN INTO A CRISIS?
The housing boom in the
US starte
d petering o
ut in 2007. One major reasonwas that the boom had led to a massive increase in the su pply of housing.
Thus house prices started falling. This increased the default rate amongsu bprime borrowers, many of whom were no longer able or willing to paythrough their nose to buy a h ouse that was declining in value.
Since in home loans in the US, the collateral is typically the home being bought, this increased the su pply of houses for sale while lowering thedemand, thereby lowering prices even f urther and setting off a vicious cycle.
That this coincided with a slowdown in the US economy only made matters
worse. Estimates are thatU
S housing prices have
droppe
d by almost 50%from their peak in 2006 in some cases. The declining value of the collateral
means that lenders are left with less than the value of their loans and hencehave to book losses.
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Result
Overconsumption/
Extravagant
spending
by the consumer
13
for years the prices of homes in the U.S. kept rising.for years the prices of homes in the U.S. kept rising.
For years prices of homes in US kept
rising
for years the prices of homes in the U.S. kept rising.for years the prices of homes in the U.S. kept rising.for years the prices of homes in the U.S. kept rising.
Thus
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Felt a need to Preserve capital. Therefore Started tightening credit , Started
restricting lending to the U.S consumer and businesses.
Since then Loans became difficult to come by banks, Bank cut Credit car d limits.
U.S. consumer significantly reduce spending.
Dollar value Declined Stock market crashed
14
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In early July, depositors at Los Angeles offices of Indy Mac Bank
lined u p in the street to withdraw their money.
On July 11,Indy Mac - the largest mortgage lender in theUS - wasseized by federal regulators.
15
During the weekend of September 14-15, Lehman
Brothers declared bankr u ptcy after failing to find buyers.
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HOWDID THE CRISIS BUILD UP?
An investment bank uses its proprietary book (own money) to lend
others and invest. It started with the su bprime crisis. Banks like
Lehman, buy mortgage loans from other banks, and then package
them to sell bonds against the loan pool. Often they add cash to make
the loan pool more attractive, so that the bonds can be sold at a higher price.
Su ppose mortgage was earning 6%, these bonds are sold at 4%. The
difference is the spread which the investment bank earns. By selling
these str uctured bonds, it raises money and frees capital. But when
homebuyers started defaulting, these bonds lost their value. It all began like this, and then the vir us spreads across markets.
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17
Bank of America agreed to purchase Merrill Lynch,
& consortium of 10 banks create
dan emergency f
un
d of at least $70 billion to deal with the effects of
Lehman's closure.
Another bank failure occurred on September 25 when
JP Morgan Chase agreed to purchase the banking assets
of Washington Mutual
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LIST OFBANKR UPT AIRLINES
Dec 26, 2007 - Maxjet Airways files
March 31, 2008 - Aloha Airlines files and discontinues passenger
transporting operations
April 03, 2008 - ATA Airlines files and discontinues operations
April 05, 2008 - Sky bus Airlines files and discontinues operations
April 10, 2008 - Frontier Airlines files
April 26, 2008 - Eos Airlines files and discontinues operations
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19
IMPACT OF US RECESSION ON
INDIAN ECONOMY
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A slowdown in the US economy is bad news for India.
Indian companies have major outsourcing deals from the US. India's exports
to the US have also grown su bstantially over the years. The India economy is
likely to lose between 1 to 2 percentage points in GDP growth in the nextfiscal year. Indian companies with big tickets deals in the US would see their
profit margins shrinking.
The worries for exporters will grow as r u pee strengthens f urther against the
dollar. But experts note that the long-term prospects for India are stable. A
weak dollar could bring more foreign money to Indian markets. Oil may get
cheaper brining down inflation. A recession could bring down oil prices to
$70.
Between January 2001 and December 2002, the Dow Jones Industrial
Average went down by 22.7 per cent, while the Sensex fell by 14.6 per cent.
If the fall from the recor d highs reached is taken, the DJIA was down 30 per
cent in December 2002 from the highs it hit in January 2000. In contrast, theSensex was down 45 per cent.
The whole of Asia would be hit by a recession as it depends on the US
economy. Asia is yet to totally decou ple itself (or be independent) from the
rest of the world, say experts.
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Most people have sold the shares. Foreign investors have pulled out from stock
market.
Stock broking hou
ses are laying-off people. People have started saving money.
SHAREMARKET
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Government and other private companies are reluctant in
starting new ventures and starting new projects.
Car, bike & tr uck sales down.
Steel plants also started cutting production.
Hospitality and airlines are hit by poor demand. 22
INDUSTRIALSECTOR
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Companies in the private sector and government sector are
hesitant to take u p new projects. And they are working on
existing projects only.
Projections indicate that u p to one crore persons could lose
their jobs in the correct fiscal ending March.{as given byFederation of Indian Export Organisations (FIEO)}
The textile, garment and handicraft industry are worse
effected. Together, they are going to lose four million jobs
by April 2009, accor ding to the FIEO survey
23
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24
BANKING
SECTOR
Indian banks are facing through a tough time of liquidity
cr unch. Lehman Brothers had invested a great amount in the
stocks of Indian banks that have invested in derivatives.
A sudden fall in the economy directly affected Lehman and
Merill, eventually forcing them to file a bankr u ptcy.
Falling down of Lehman had a great impact on the leadinginternational bank, ICICI Bank, a bank that had invested in
Lehman¶s bonds.
The interest rates have drastically increased from 11.5% to
nearly about 16%.
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25
AGRICULTURE
(NO EFFECT)
No major on impact on Indian agriculture
Negligible foreign investment
Normal and
d
istribu
ted
rainfall in 2008
Production increased from 231-234 million
tonnes (07-08)
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Government has 2 plans
Fiscal Policies
(By Govt.)
Monetary Policies
(By RBI)
How it spends
and collects money
Su pply of money
in the country
How to come out of recession?
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MONETAR Y POLICY
Fed will maintain historic low target for key interest rate before raising
it towar d the end of 2009.
Inflation will be relatively low over the year, and core inflation will
slow.
Central bank is widely expected to pursue financial lending and
monetary stimulus initiatives.
Federal Reserve's most-recent decision on March 11, 2008 to increase
liquidity via the launch of its new, $200 billion Term Securities Lending
Facility for 28-day loans for primary dealers
Mr Obama has emphasised the need for a ³green recovery´ ± one based
on sustainable technologies, not merely on consumption spending.
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IS RECESSION OVER IN US ECONOMY ?
Unemployment stood at 9.8 per cent in September 2009, the
highest rate in 28 years, and is widely expected to reach 10 per
cent in 2010.
Consumer spending, which accounts for about two-thir ds of the US economy, jumped 3.4 per cent.
US stocks jumped more than 0.5 per cent in opening trading
on Wall Street.
President Barack Obama said, the 19-month US recession
had reached the ³BEGINNING OF THE END´