Global Financial Crisis

Executive Summary

The Global Financial Crisis (GFC) had significant impacts on many countries all over the world. And the whole economic world took a beating since mid-2007. Firstly this report is going to examine the reasons for the GFC; and then look at the impact of the GFC on selected countries, the GFC in the Australia financial system will be discussed in this report respectively. Also this report is going to apply theoretical knowledge from Money and Capital Markets (2010) on the analysis and discussion about the Australian financial system affected by GFC with examples.

As a part of this report, the whole background to introduce how the Australia's financial system continued function well throughout the GFC would be explained. As well as the economic challenges Australia faces during the time of GFC. The information for this report was gained using primary source relevant to finance such as academic journal and other reports. Also charts and graphs to illustrate the trend of financial issues and some reasons will be discussed. Then a conclusion will be given at the end of the report.

1 Introduction

1.1 Background information

The whole world has suffered the consequences of Global Financial Crisis during mid-2007 to 2009. The global financial crisis of 2008 is the worst economic disaster since the Great Depression. Started with failures of large financial institutions in United States, it rapidly evolved into a global crisis. As a result, the world stock markets became extremely volatile, large financial institutions have collapsed and the consumers lost confidence. The meaning of Global Financial Crisis is that some financial institutions or assets suddenly lose a large part of their value, it usually in the forms like banking panics and recessions, bursting of financing bubbles and stock market crashes etc. On the one hand many people fasten their belt concerning about their livelihoods without knowing what would be ahead because of the global financial downturns. While on the other hand, governments took actions to response to the crisis. With international cohesion, they continue to persist about stability of the global financial system (Bertaut & Pounder, 2009).

2 Discussions

2.1 What are the reasons for the GFC?

There are a number of reasons for the Global Financial Crisis. The "credit crunch" carried out in the mid-2007 in U.S. It is usually caused by inappropriate lending lacking of supervision; in some case the lender lose the ability to lend the property further out, and this cause loses for lending institutions and investors. As a result loans become bad debts. The consequence of this is that lending institutions reduce credit of lending and increase the cost of lending fees by raising interest rate. (Bertaut & Pounder, 2009) In order to know how credit crunch related to the financial crisis, it is necessary to understand the original factor of financial crisis, which is the "sub-prime mortgage crisis". Sub-prime mortgage crisis created due to sub-prime lending and Wall Street storms. The changes in credit conditions became easier and easier, lower interest rate encourages borrowing. And this accelerates the bursting in the housing bubble involved in the crisis. Overall the demand for housing increases home ownership rates, and then it pushes the housing prices higher.

The graph 1 above illustrates that the home sales kept increasing from 2005 to 2009. The properties price in the U.S increased by 124%. There was a peak around 2005 to 2006 with almost 6.8 million to 7 millions.

However some subprime mortgage borrowers' financing credit rating were relatively poor, or lack of sufficient proof of income. Or there are other liabilities not form the mortgage, breach of contract is very easy to happen. Without strict credit regulation, the prices of housing keep increasing, lending institutions not justify the breach of contract because the lender loans, they can refinance, or simply to mortgage the house to recover, and then sold it while still earning profit. However, changes in the credit environment, particularly cases of unexpected falling housing prices by over 20% from 2006 peak. This unexpected decline in housing prices means that the properties worth less than that for mortgage. In other words, refinancing or mortgage the house to recover to resell became difficult. What making it worse, this situation happened as a very common case. Inevitably the crisis has emerged (Brown & Davis 2008).

As the same time, funds and banks around have been affected by the crisis of sub-prime mortgage in the U.S. because they had bought bonds that became potential risk under the sub-prime mortgage. Through the global banking system, global financial crisis gets on stage.

As the consequence of sub-prime crisis, in US consumers lost confidence and belief in financial institutions because of the loose monetary policy of financial regulatory authorities in U.S. From the beginning of 2001 to June 2003, 13 times changeable of lower interest rates, the loose monetary policy environment, reflected in the residential mortgage market in the US. There is a $900 billion mortgage debts in the sub-prime paper on the balance sheet of the world's financial institutions. Although not all of them became bad debts, some record on defaults, it will take several years to written bad.

Overall the main reason for the GFC is sub-prime mortgage crisis caused by the Wall Street storms. And then it has evolved into a global financial crisis. The process is rapidly and a large number of scale, it has a terrible impact all around world (Henry, 2010).

2.2 Impact of the GFC on selected countries

This report will examine three typical countries, which are USA, UK and Australia. Global financial crisis started in US caused by sub-prime mortgage. Therefore, U.S. went through a direct and huge impact during financial crisis. Bankruptcy or restructuring for a large number of financial institutions leads to tighten money supply, and consumer-spending declined significantly. For instance, car sales had fallen, as the buyers cannot get enough credit to afford the car. The US economy went through a lost with more than a quarter of their net worth between mid-2007 and 2008. As the consequences for that, the unemployment rate goes upward dramatically. Compared to 1945 job losses in US, in 2008 is the worst year for job losses. US economy lost over one million jobs during November and December. Furthermore, the stock index S&P shows that housing prices had decreased 23.4% from their 2006 peak, it would be kept declining in future markets around 30-35%(Atkinson & Greg, 2009). As a consequence of the downturn in house prices, more than 10 million households owe more from their mortgages. The inventory of house sales involves foreclosure. Foreclosure is the main factor leading to market weakness and inactivity.

The economy of United Kingdom suffered pessimistically as well. The financial crisis also has a huge impact on UK. For example, increasing in number of unemployment, recession and depreciation of pound. In order to stimulus the economy, the government took action, more investment. However, the strong trend of financial crisis caused a dramatic increase in unemployment in the labor market. In the end of 2008, the record of 290,000 unemployed people. This number sets the highest record since 1997. The office of National Statistics shows that the significantly drop in production activity. Compared with August 2008, the volumes index for the output of production manufactories declined by 2.7% in November 2008. Manufacturing activity shrinks fast. Some industries report to shutdown or shorten the working weeks or laying-off a huge number of workers. Office of National Statistics had stated recession officially. The speed of shrink of economy was faster than the early 1990's recession. Within only three months, it decreased up to 2.5% by the end of 2008. The recession in UK has four important reasons. There are both declined in business and housing market investment, the price of oil, financial institutions bankrupt, loss of confidence and reduce available of credit for bank lending. Firstly, the housing price in UK also decreased dramatically. It made everyone in UK feel pressure during the recession. Secondly, unacceptable rise in oil prices was caused by the recession. In the modern society, fossil fuel is crucial necessities for modern life. Such price of oil would lead to the decrease in business investment and profit margins. As well as led to several years' unemployment number increase. Thirdly, banking institutions lost their trust from people. Lastly, although government took the action to make UK's banking system out of danger, the increase in supply of credit was very slow. Entrepreneurs and small businesses are the important parts of the UK economy. However, tightened lending policy means that small businesses will have difficultly to borrowing money to keep their business. Conclude that the economy for UK has been downward as result in housing market and limited lending of financial institutions caused by financial crisis (Adair, Berry, Haran, Lloyd & McGreal, 2009).

Compared with the U.S. and UK, Australia has been less affected by financial crisis because of good management and regulation function well during the crisis period. However in some areas GFC also challenged