Sei sulla pagina 1di 8

THE FINANCIAL CRISIS OF 2008

The Financial Crisis of 2008


A summary of events leading up to, during, and aftermath of the Financial Crisis
Charles Evans
Bloomsburg University of Pennsylvania

THE FINANCIAL CRISIS OF 2008

Summary
The Financial Crisis of 2008 was an event that not many had believed would happen. In a
time of a booming economy, many high level investment managers, CEOs, and government
officials, overlooked many important warning signs that the banking system was headed for
failure. The four episodes produced by Frontline, Breaking the Bank, The Warning, Inside the
Meltdown, and The Untouchables, investigate the events leading up to, during, and the
aftermath of the financial crisis. The early comings of the crisis begin in 2007, when the housing
bubble burst and trillions of dollars of toxic assets owned by banks began to become insolvent.
The toxic assets which were owned by the banks were investments in sub-prime mortgage loans
and default swaps. Banks and investments groups at the time would buy thousands of mortgages
and bundle them into securities and sell them to investors. When the creditors defaulted on their
mortgages, that would be the problem of the investor. The first bank to begin to fail because of
an investment in such assets was Bear Stearns. Stearns had borrowed heavily in order to invest in
sub-prime mortgages and defaults swaps. As a result, Stearns stock price began to fail. With
failure imminent, the Federal Reserve chose to lend funds through J.P. Morgan. However, with
the broadcast of the loan from the government, investors began to panic and Bear Stearns filed
for bankruptcy. The effect of the bankruptcy was systematic. As they failed, another would take
on their debt and fail, and so on. The next banks in line were Lehman Brothers and Merrill
Lynch. Henry Paulson, the Secretary of Treasury, urged for both banks to find a buyer for their
company. Lehman Brothers was unable to find a buyer for their company without the same
treatment as Bear Stearn, and was forced into bankruptcy after Paulson refused to offer a bailout.
Merrill Lynch, however, was fortunate enough to sell their company to Bank of America for
$50,000,000. As a reaction to the merger, everything froze. Credit markets froze, banks stopped
lending, and the Dow Jones was down over seven-hundred points the next day (See Appendix

THE FINANCIAL CRISIS OF 2008

A). The Paulsons next step was government intervention. He was granted to lend the worlds
nine leading banks a sum of $700 billion dollars in the form of a bailout. As a result of the
bailout the government would take an ownership stake in each bank.
Leading up to the crisis there were many whistle-blowers. The first of the whistle blowers
was Brooksley Born. Brooksley born tried to warn about the danger of these toxic assets as the
head of the Commodities Futures Trading Commission. During the late 1990s and early 2000s
banks and investment groups began to deal largely with over-the-counter derivatives dealing in
real estate, which were left unregulated by government agencies. Without regulation, only the
people dealing the derivatives knew the underlying issues and facts of the trade. Born pushed for
the regulation of such trading in order to provide information for reporting and record keeping.
After numerous attempts to push for regulation, even after a derivative crisis in which a
companys derivative securities had failed, government did nothing.
In addition to the real estate derivatives, there had also been many whistle blowers
regarding real-estate and mortgage loans that were granted as a result of fraud. Mortgage
companies and banks leading up to the crisis granted high value loans to customers who were not
qualified. Loans were granted to customers with no jobs, no source of income, and no assets.
Both banks and mortgage lenders did not correctly institute the fact of due diligence in order to
approve loans to insolvent customers. If a loan seemed to be fraudulent, such as a waiter making
12,000 a month, the rules were bent and the loan was granted. Ultimately, this led to banks
acquiring a large number of toxic assets, trading loans to each other which they knew were
defective.

THE FINANCIAL CRISIS OF 2008

Importance of the Financial Crisis


The importance of the Financial Crisis left many lessons to be learned, for both the
government and the central banking system. Of main importance is the need for government
regulation and strong corporate governance. The need for federal regulation following the
Financial Crisis was greatly coherent. Prudential regulation ensures that financial institutions
have adequate safe guards, internal controls, procedures, and corporate governance. As a result
of these adequate safeguards, the institution has the ability to operate safely and efficiently (Four
Lessons, 2011). The government needs to enact regulation in order protect the investor against
negligence. In terms of the crisis, regulation may have been able to eliminate the problems. At a
time of dealing derivatives backed by sub-prime mortgage loans, transparency through financial
reporting could have warned investors of what they were getting into (Lessons from the
Financial Crisis, 2015).
Corporate governance are the policies and the structure within and company which determine
the companies goals and performance (McRitchie, 2015). When properly implemented, it
prevents scandals, fraud and civil liability (Sun, 2015). A major factor in the economic crisis was
the dealing of fraudulent mortgage loans which could have been prevent. As fraudulent mortgage
loans were granted and traded for by banks, there were many whistle-blowers that tried to alert
the higher officials of banks that something needed to be done. However, high level management
instead ignored the policies of due diligence and went forward with the deals raising sub-prime
mortgages dramatically from 2004-2006 (See Appendix B). The decisions by high level
management signaled a break-down of internal controls, creating a problem for all stakeholders
in the fraudulent loans.

THE FINANCIAL CRISIS OF 2008

Connection to class topics


The financial crisis dealt largely with the topics of secured transactions and fraud. Banks
engages heavily in sub-prime mortgages through secured transactions. A secured transaction is
whenever the payment of debt is guaranteed, or secured, by personal, property owned or held by
the debtor (Clarkson, 2015). However, most of these secured transactions resulted out of
fraudulent activity. Security interests were created but however, the loans which were granted
were not backed by debtor collateral such as assets or assurance of rights to assets which is a
requirement (Clarkson, 2015). In the process of granting these loans, due diligence was not
exercised, and underwriters were told to ignore loans which may seem fraudulent. In pursuant of
the high level executives of banks for these fraudulent activities, the FBI was unable to prosecute
based of the precedent of intent. In criminal law, the state must prove beyond a reasonable doubt
that the party committed the act with the intent of harm (Clarkson, 2015). The FBI held that they
could not pursue any individuals because they had no evidence to prove intent.
Analysis of Litigation
The High level management and CEOs of banks and lending companies participating in the
fraudulent activities were virtually untouchable. Efforts from the FBI were minimal. Although
there were many whistle blowers available, the FBI failed to utilize them for their investigations.
During interviews, many had said that there were fraudulent acts committed by the high level
management in processing loans but none of them were contacted. As a result, banks were only
held civilly liable for their crimes and not criminally.

THE FINANCIAL CRISIS OF 2008


References
Four Lessons from the Financial Crisis. (2011, April 15). Retrieved November 10, 2015, from
https://www.chicagofed.org/publications/speeches/2011/04-15-minsky
Lessons from the Financial Crisis. (2015). Retrieved November 13, 2015, from
http://www.economicpredictions.org/financial-crisis-lessons.htm
McRitchie, J. (2015). Corporate governance defined. Retrieved November 13, 2015, from
http://www.corpgov.net/library/corporate-governance-defined
Sun, L. (2015). Why is Corporate Governance Important? Retrieved November 13, 2015, from
http://www.businessdictionary.com/article/618/why-is-corporate-governance-important
Clarkson, K., & Miller, R. (2015). Business law: Text and cases (Thirteenth ed., Vol. 13, p.
574,575,196). Stamford, CT: Cengage Learning.

THE FINANCIAL CRISIS OF 2008


Appendix A

THE FINANCIAL CRISIS OF 2008


Appendix B

Potrebbero piacerti anche