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Department of Economics

Assignment for Course : ECO 4223-007 MW WinterFall 2011 Assignment Title: Submitted to: Prof AUERBACH Submitted by: (Jean Ramirez) (Z23165424) (12031 NW 31st PL, Sunrise, FL 33323) (954 618-9202 ) Date of Submission: 10/17/2011 Title of Assignment: Inside Job CERTIFICATION OF AUTHORSHIP: I certify that I am the author of this paper and that any assistance I received in its preparation is fully acknowledged and disclosed in the paper. I have also cited any sources from which I used data, ideas or words, either quoted directly or paraphrased. I also certify that this paper was prepared by me specifically for this course. Student's Signature: Jean Ramirez ______________________________ ***************************************************************** Instructor's Grade on Assignment: Instructor's Comments:

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Abstract
The inside job is a documentary film produced and directed by the Charles Ferguson in 2010. This film illustrates what led and what happened during the global economic crisis of 2008, which cost tens of millions of people their savings, jobs, and their homes. This documentary exposes the truth arrangements that took place behind the curtains through an extensive research and series of interviews with major journalist, financial insiders and politicians. This documentary demonstrates that the crisis was not an accident; instead, that the crisis was due to an unstable and unregulated market and it illustrates the malicious methods and way that different banks, rating agencies, and other financial firms practiced in order to increased their profit. The result of this strategies used by financial firms was a global recession which cost the world 10ths of trillion of dollars, render 30 million people unemployed and double the United States debt.

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Inside Job
After the great depression, the United States had a prosperous economy growth that was constant for 40 years. From 1940 to 1980, the financial industry was extremely regulated and most banks were local business and they were prohibited from speculating with the depositors savings. Investment banks, which handle stock and bond trading, were small private partnerships; therefore they were really cautious with the money they invested because the money they were handling was their own. In the beginning of 1980, the financial industry started an era of deregulation that will last 30 years, in where the government was gradually giving more control and reduced governmental supervision to financial institutions. In 1982, the Ronald Regan Administration deregulated the saving and loans companies, which would allow financial firms to risk and gamble with the savings of people. At the end of the decade these saving and bonds companies failed, along with the FSLIC fund that was created to insure their deposits, and cost taxpayers $124 billion and millions of people lost their life savings. This saving and loans collapse is known as the Savings and loans crisis, in where 747 out the 3,234 saving and loan associations in the United States failed. Despite knowing that deregulation was the cause of this tremendous crisis, deregulation continued under many different president administrations. The people in charge of the economy sector from government supported the idea of deregulating of the financial sector even further. By the 1990s, the financial sector had consolidated into a few giant firms that were so large that if they were to fail, they would affect the whole economic system. These financial services were getting so big that they were even violating laws in order to gain more power, but the government made exemptions for them in order to allow the financial
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services to continue and eventually changed the laws. At the beginning of 2001, another crisis occurred called the Dot-com bubble. This new crisis was caused because investment banks promoted companies that they knew would eventually fail. The investment banks stock analysts were receiving payments based on the amount of business they were bringing in, but what the stock analysts were telling the public was different from what they were saying privately. The Dot-com bubble resulted in $5 trillion in investor losses. The SEC, Securities and Exchange Commission, which is responsible for implementing a series of regulatory initiatives required under the Dodd-Frank Wall Street Reform and Consumer Protection Act, did nothing. Since the deregulation era started, many of the worlds biggest financial firms began to laundry money, defrauding customers and cooking their books numerous times. In consequence of their actions, the only thing financial firms had to do was to pay fines without having to admit any wrong doing. Beginning in the 1990s, derivatives, which is a security whose price is dependent upon or derived from one or more underlying assets, became a popular instrument in the industry that was used to gamble on virtually anything. By the end of the 1990s, derivatives were a huge unregulated $15 trillion market. The efforts to regulate this unregulated derivate market were frustrated by a bill passed by congress called Commodity Futures Modernization Act of 200, which banned the regulation of the derivative market. This act led to a big bubble that will eventually burst and cause one of the major financial crises in the American history. After this act, investment banks bundled mortgages with other loans and debts into a CDOs, Collateralized debt obligation, which they would eventually be sold to investors. Rating agencies gave many CDOs AAA ratings, which are the highest possible investment rate. This system was a growing bubble that would eventually burst
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since lenders didnt care to provide loans to people whom couldnt repay them because investment banks didnt care either since they were using securities. Banks liked riskier loans, called subprime loans, because they carried higher interest rates which would make banks more profit. Investment banks combined many of these subprime loans and sold them as CDOs and rating agencies, knowing that these CDOs were bad loans, gave the CDOs AAA ratings. These new AAA ratings more than quadrupled within 5 year span. In consequence, anyone was able to obtain a mortgage, therefore home purchases and house prices skyrocketed.

Mortgages
$4,500 $4,000 $3,500 $3,000 $2,500 $2,000 $1,500 $1,000 $500 $0 2000 2001 2002 2003 $ In Billions

Figure 1. The representation of mortgages loans obtained during 2000 and 2003. Goldman Sachs, Morgan Stanley, Lehman Brothers, Merrill Lynch, And Bear Stearns were all in on this, they knew what was happening. Many traders and CEOs became extremely wealthy during this bubble period since the bonuses increased in Wall Street. The Securities and Exchange Commission didnt conduct any major investigation of the investment bank during this period. Investment banks were heavily barrowing money to

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provide more loans and the ratio of this borrowed money and the banks own money, which is called Leverage, increased tremendously. This leverage had a limit but lobbyist pursued The Securities and Exchange Commission to lift the leverage limits on the investment banks and the lobbyist ultimately accomplished it, leaving the capacity of banks to borrow money from the government clear of any restriction.
40 35 30 25 20 15 10 GOLDMAN SACHS MERRIL LYNCH LEHMAN BROTHERS BEAR STEARNS MORGAN STANLEY 2007 2003

Figure 2. The amount of leverage obtained after the leverage limit was lifted. At the same time, another strategy was used by these financial investors to increment their profit on their CDOs called Credit Default Swaps, which was like an insurance policy for investors CDOs since they paid AIG to protect and pay them if the CDOs went bad. Credit Default Swap was another market which was not regulated therefore AIG, or other insurance companies, didnt invest or made funds to protect this insurance policies if something went wrong. AIG let other investor, called spectators, to bet against these CDW and therefore gain additional money for the CDOs that were being protected by AIG. Goldmans Sachs acknowledges this spectator method and started to bet against their own CDOs. Goldmans Sachs rapidly begin making additional money because

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they knew exactly that their CDOs were bad ones, even though they told investor that this CDOs were high quality ones, and began to even induce even worst CDOs to AIG because they knew that it would create more profit for Goldmans Sachs. GS acknowledge that AIG couldnt no longer maintain the securitizations of their CDOs so they began to secure themselves since they knew AIG was about to go bankrupt. The rating agencies helped on this scam system because they gave AAA rating to the CDOs that were being sold, with the knowledge that these CDOs were bad ones. Rating agencies protected themselves before congress arguing that their rating were based on opinions and therefore people should not rely heavily on them. Numerous people acknowledge all of this wrong doing on behalf of the financial institutions and tried to get the government economic executives to put control on these financial institutions. All of those intents failed since the government economy executives were being paid by these financial institutions to allow then to continue with an unregulated market. Now that the government didnt have control on these individuals, many bonuses we provided to CEOs and other employees of these financial institutions. Many executives started to spend corporate money with no regard of the damage that it will eventually cause to the financial sector. By 2006, the CDOs market fall and many reports were being published announcing that the financial sector was about to burst because the previous ways of creating profit with theses unregulated markets were damaging the economic sector and that it will eventually will cause a recession. Many analytics provided research papers that demonstrated that something was wrong but the people in government in charge to analyze these problems were not doing anything and even denied that anything was going wrong. The FBI was one of the agencies announcing
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that there was a widespread of mortgage fraud going on and urged the government to take actions. By 2008, the foreclosures of homes grew tremendously, affecting millions of Americans and the fall of lenders decreased since the loans were no longer able to be sold to investment banks. By this time, investment banks were holding billions and billions of dollars on loans, CDOS, and real state that they couldnt any longer be sold. In 2008, the economists from the government were still denying that anything was wrong, even though a Great Depression has already begun in 2007. Investment bank Bear Stearns, which was one of the pillars of the financial sector, ran out of cash and was sold to J.P. Morgan Chase. Then, Fannie Mae and Freddie Mac were bought by the federal government because they were on the edge of failing. After these incidents, the government was still standing on their argument that they have things under control and that nothing major was going on. Later on, Lehmans brother stocks collapsed and was acquired by Bank of America. The failure of Lehmans brothers caused a collapse in the commercial paper market, which many companies depended to pay their payroll. Within weeks later, AIG also failed and was acquired by the government. At last, the government had acknowledged that the financial sector was having major problems and decided to intervene. Then, the fed chairman and suggested the government to bail out these the banks with an impressive amount of $700 billion. By this time, everything was frozen; every part of the financial system was put on hold since no one could loan any money or pay any investment. The bailout was finally provided to these financial institutions for the suggested amount of $700 billion. The bailout didnt provide

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much support to the credibility of the people and other entities so foreclosures continued.
1,000,000.00 900,000.00 800,000.00 700,000.00 600,000.00 500,000.00 400,000.00 300,000.00 200,000.00 100,000.00 0.00 2007 2008 2009 Q1 Q2 Q3 Q4

Figure 3. The amount of foreclosures between 2007 and 2009, during the United states recession. General Motors and Chrysler both went bankrupted and scared Americans to the point that they cut their spending. The spending cut on behalf of Americans, caused rapidly world recession since many markets around the world decreased their production. Since the economy systems around the world were connected, the unemployment around the world rose by 10% in Europe. The major banks acquired many small firms that failed because of this crisis and grew even larger. The foreclosures in the United States increased to record levels. The top executives that were involved in this financial catastrophe were exonerated of any blame and walked away with their fortunes intact. For example, Lehmans top executives receive an accumulated amount of over a $1 billion, when the firm when bankrupt they didnt had to pay any money. Many top executives, who hold a major part stocks, made lots of money for selling their stocks in months of anticipation that their

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firm will fail. Different strategies were practice to allow many of these top executives to walk away with their money intact; such as allowing their CEOs to resign so that the CEO can retain their wages and the allowance of the board of directors to provided bonuses to many members of their firm. Many people who contributed to the collapse of the financial sector were people who were professors and deans of the most prestige universities of the United States. They were paid by financial firms in order to create reports and testify on behalf of them and to agree that the practices and strategies that these financial firms were using were appropriate. The 30 year era of irresponsible deregulation by many presidential administrations led to one of the biggest financial crisis in the history of the United States. Financial firms were gambling with the money of depositors without any intervention from the government. With the rise of technology many new markets were created, which handled trillions of dollars but where unregulated by the government. The derivate market created a system that banks used to borrow vast amount of dollars from the fed in order to loan them. Loans were easy to obtain so the public begun to acquire loans which banks provided; banks didnt care if the borrower was able to pay it back or not. Financial firms started to practice malicious techniques to generate even more money without taking on account the damage they were generating to the financial system. Despite the many attempts by different individuals to regulate these markets, deregulation continue because of the vast lobbying that was taking place in Washington. At last, the bubble, which has being inflated for decades, burst and caused disastrous effect around the country. Foreclosures increased to unprecedented heights, billions of tax payers dollars were lost, important companies that were the major job creators closed down, followed by a rise in
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the unemployment rate, the citizens cut spending, and the national debt more than doubled. The financial crisis also caused a deep global recession which affected the entire world. By 2009, 212 million people were unemployed worldwide. Thousands of small oversea companies shut down and lay of their workers. The exports of good in those countries decreased substantially and therefore their revenue also decreased. During the bubble, the top executives of these financial firms gained billions and billions of dollars. In many occasions these individuals spoke before the congress and assured the government and the public that nothing was wrong and that everything was going well. After learning the methods and techniques of these financial executives, which were the major contributors to this financial crisis, were acquitted of any wrong doing. The top executives, who earned subnational bonuses, were able to hold their fortune intact after all of the commotion they caused. The executives of these financial firms made the United States to go onto one of the worst depression of their history, and despite this, they were chosen by the current president of the United States to be the part of his economic advisory board and gave other governmental positions to others.

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Conclusion It is extremely important for governments to regulate their financial firms. Past history has shown us that regulation sustained the United States economy for a long period of time by setting rules and laws to financial firms so that they can behave adequately and do whats right with the investments and money of the depositors. Controlling these financial firms is a key element in maintaining a stable economy. Deregulation led to disastrous events in our history which caused billions and billions in tax payers money, rise of the national debt to record level, and the exporting of job from the United States to the rest of the world. I have learn that providing power to financial firms to manage their money and come up with methods to generate money out of complicated systems can led to serious complication and along with it, corruption. Corruption that grows and becomes malicious as the need for money and power feels necessary to accomplish financial firms goals. The dishonest system can develop to a point in where the corruption proceeds to governments. And when the corruption of governments becomes a reality, the need for money overcomes the need to work for society, in where the government will no longer be a government for the people by the People, but a government for the money by Corporations.

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Work Cited
Almond, K. (2011, July 14). Who's got the highest (and lowest) unemployment rates? CNN.com.CNN.com - Breaking News, U.S., World, Weather, Entertainment & Video News. Retrieved October 17, 2011, from http://www.cnn.com/2011/WORLD/asiapcf/07/14/world.comparison.unemploy ment/index.html David, G. (2009, November 24). The dot-com bubble: How to lose $5 trillion Anderson Cooper 360 - CNN.com Blogs. Anderson Cooper 360 - CNN.com Blogs. Retrieved October 11, 2011, from http://ac360.blogs.cnn.com/2009/11/24/the-dot-combubble-how-to-lose-5-trillion/ Ferguson, C. (2010). Inside Job. Retrieved from http://www.sonyclassics.com/insidejob/_pdf/insidejob_presskit.pdf Ferguson, C. (Director). (2010).Inside Job [Documentary]. United States: Sony Pictures Classics. Gill, K. (2008, October 6). SEC Lifted Debt Limit For Brokerages In 2004.US Politics. Retrieved October 12, 2011, from http://uspolitics.about.com/b/2008/10/06/seclifted-debt-limit-for-brokerages-in-2004.htm Jameson, R. (n.d.). US Savings & Loan Crisis. SunGards Ambit Risk Institute Advisory Services - HomePage. Retrieved October 10, 2011, from http://www.erisk.com/learning/casestudies/ussavingsloancrisis.asp Mccracken, J. (2009, March 31). Bankruptcy Leads Possible Plans for GM, Chrysler WSJ.com. Business News & Financial News - The Wall Street Journal - Wsj.com. Retrieved October 17, 2011, from http://online.wsj.com/article/SB123841609048669495.html Mollenkamp, C., Craig, S., NG, S., & Lucchetti, A. (2008, September 16). Lehman Files for Bankruptcy, Merrill Sold, AIG Seeks Cash - WSJ.com.Business News & Financial
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News - The Wall Street Journal - Wsj.com. Retrieved October 17, 2011, from http://online.wsj.com/article/SB122145492097035549.html Murphy, R. (n.d.). Did Deregulated Derivatives Cause the Financial Crisis? | The Freeman | Ideas On Liberty. The Freeman | Ideas On Liberty. Retrieved October 17, 2011, from http://www.thefreemanonline.org/featured/did-deregulated-derivatives-causethe-financial-crisis/ Partnoy, F. (2010) The Official Teachers Guide. Retrieved from http://www.sonyclassics.com/insidejob/_pdf/InsideJob_StudyGuide.pdf Mishkin, F. S. (20092010). The economics of money, banking, and financial markets (9th ed. (and the 2nd ed. of the business ed.). New York: Addison-wesley. Paul, K. (2008, June 24). The Subprime Mess and Phil Gramm: An Experiment in Deregulation | InjuryBoard Los Angeles. Injury Board Los Angeles | California Personal Injury Attorney. Retrieved October 17, 2011, from http://losangeles.injuryboard.com/miscellaneous/the-subprime-mess-and-philgramm-an-experiment-in-deregulation.asp Robinson, D. (n.d.). FAKING THE GRADE: Financial alchemists of the Triple-A. The Chambers Magazine. Retrieved October 12, 2011, from http://www.chambersmagazine.co.uk/Article/FAKING-THE-GRADE-Financialalchemists-of-the-Triple-A U.S. Government Takes Over Fannie Mae, Freddie Mac. (2008, September 7). FOX News Network - Politics - Fox.com. Retrieved October 12, 2011, from www.foxnews.com/story/0,2933,41824 Walker, J. F. (n.d.). History of the U.S. economy since ... - John F. Walker - Google Books. Google Books. Retrieved October 10, 2011, from http://books.google.com/books?id=l0W291TmmV8C&pg=PA200&lpg=P

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