Financial Crisis in the USA, Business Proposal Example

The financial crisis that occurred starting in 2008 had multiple moving parts that resulted in the global financial crisis that could be seen as one of the worst of its kind since the Great Depression eighty years prior (Bogle 2005). The results spanned far and wide including the unexpected collapse of large financial institutions, government intervention for bailouts, inflation, foreclosures and prolonged exposures to underemployment and unemployment. The stock markets globally took huge losses which impacted current day value but also negated and destroyed retirement plans for those heavily invested in U.S. and global funds. The impact of the financial crisis touched big business all the way down to the individual family. The depth and breadth of the hardships and impact rippled globally.

In order to fully understand how to avoid the potential for a self-inflected global financial crisis a root-cause analysis and full understanding on how and why the crisis was triggered in the first place. There was not one single point of failure but a catastrophic harmony of many financial decisions and actions that lead to the overarching crisis as a whole. The general view by financial experts was that the complex financial products that were built on high risk instruments coupled with the non-disclosure of conflicts of interest, non-regulation and the unpredictable nature of the market lead to the domino effect resulting in financial collapse. The financial institutions were building capital generating tools based on investment strategies regarding the market of the past decade in which growth was predictable and the investment market was stable. The high risk calculations for volatility were downplayed and were not seen as risky investments. The views on investments, such as the housing market, were seen as low risk high reward. The decoupling of regulation, solvency of the banking industry and conflicts of interest lead to unwieldy situations for the banking industry in which they could not manage themselves out of in order to return to profitability once the markets started to tumble.

The complexity of the overall financial failure and crisis can be boiled down to a singular point. The financial investors created investment strategies based on increasingly complex and interwoven financial innovation that worked flawlessly until a flaw was introduced. One of the main contributors was the housing bubble bursting in late 2007 and early 2008. The housing market was one of the surest and financially responsible investments to make during the late 1990’s and early 2000’s. That was until 2008 and the housing market burst and everyone’s financial weaknesses were exposed without the possibility of recovery without government intervention. Many mortgages were based on subprime and adjustable-rate mortgages were increasing starting to default while banks, in the same timeframe, were increasing their home loans. As a point of clarification, subprime loans are provided to those individuals that have a weakened credit history which leads to higher interest rates. These high rates pushed borrowers into another category of loan option called adjustable-rate mortgage (Baily and Elliot 2009). This means that at the beginning of the loan the loan rate is lower, hence a lower payment necessary to pay back initially during the first couple years of the loan. Once the time period for the initial lower rate expires the newer and higher rate takes place, thus leading to a higher and potentially non-repayable payment. These tools were used to “build” America and provide the financial means for borrowers to live the dream and own a home. Since credit was easily available many thought that they could refinance their debt in order to maintain their lower interest rate and avoid the higher costs associated with the adjustable nature of their original loan.

The United States was providing financial means for borrowers to borrow outside of their necessary means of payback which was a risky endeavor. The easy availability of credit spawned another market that would be shared globally. Repurchasing those debts from banking institutions created financial agreements called Mortgage-back securities and collateralized debt obligations which their value was based on the payments of the debts which were purchased and the value of the assets the payments were based on, in this case it was the homes in which the mortgages were based (Foster & Magdoff, 2009). These investments were bought and sold globally. These means that large and small institutions as well as individual investors were allowed to partake in the U.S. housing market boom which was based on subprime and adjustable-rate credit as well as a housing market on the brink of collapse.

The housing market began to see a decrease in home valuation during 2006 but did not reach it total exposure to overvaluation until the credit bubble burst and deflated in 2008. The falling home values negatively impacted the mortgage-backed securities (MBS) and collateralized debt obligations (CDO) due to the fact that a significant portion of the value calculation depended on the value of the homes backing the financial instrument. Although the value of the asset behind the investment tool was not the only portion that impacted value the other portion relied on the value of the payments coming into the financial institution that purchased the mortgages. As home values began to plummet the adjustable-rate mortgages were not so easily refinance as it was thought they would be a few years prior. This led to the home owners missing their increasingly large home loan payments. Missing payments and the inability to refinance for a payment that would actually be manageable by the home owner led to the foreclosure of the home mortgages. Now that the value of the property was significantly lower and the payments that were expected to not only come in on time but increase were now at zero the values of the MBS’s and CDO’s were a heavy financial burden on the U.S. and global financial markets (Baily and Elliot 2009).

With the major cause of the financial market destruction containing overzealous and financially brash investors creating investment tools based on only the potentially positive aspects of investing while avoiding the potentially destructive nature of avoiding risk mitigation and awareness there needs to be a lessons learned established to avoid the experiences of the past as to not repeat and endure them in the future. Addressing accountability is important to emphasize the fact that decisions and strategies undertaken by corporations or individuals must not only enjoy the positive aspects of their decisions but also the negative ramifications of their ignorance or greed (Morgenson, 2012). The government bailed out the large financial institutions and placed a band aid on a gapping chest wound. The bailout did not remedy the situation but provided another opportunity for those that placed the financial crisis in its most destructive path. Accountability will place the proper amount of ownership on the implications of their actions. Also in order to properly address investments strategies there must be appropriate risk calculations. Along with these calculations there must be third party intervention to provide guidance or insight into investment strategies so that the entire picture is painted and not just the silver lining that investors want to utilize. The government needs to provide the correct type of regulation when it comes to investments, conflicts of interest and globalization of investments. This would provide a framework to keep large businesses from overstepping their boundaries and taking undue risk that impacts the global economy. The bottom line is that there needs to be better investment and risk analysis, investment on solid financial tools instead of creative instruments based on potential and forecasts instead of actual performance and regulation on U.S. based financial interactions with the global market.

Reference

Baily, N., and Elliott D. (2009). The us financial and economic crisis: where does it stand and where do we go from here? Business and Public Policy at Brookings. Retrieved: http://www.brookings.edu/~/media/research/files/papers/2009/6/15%20economic%20crisis%20baily%20elliott/0615_economic_crisis_baily_elliott.pdf

Bogle, J. C. (2005). Battle for the soul of capitalism. New Haven: Yale University Press

Foster, J. B., & Magdoff, F. (2009). The great financial crisis, causes and consequences. Monthly Review Pr.

Morgenson, G. (2012). Reckless endangerment: how outsized ambition, greed, and corruption created the worst financial crisis of our time. New York, NY: St. Martin’s Griffin.