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Chapter 7

POLD89H3 Chapter Notes - Chapter 7: Arbitrage, Federal Deposit Insurance Corporation, Credit Default Swap


Department
Political Science
Course Code
POLD89H3
Professor
Waldemar Skrobacki
Chapter
7

Page:
of 2
payne 7
- after the fall of the soviet union, US unipolar
(D) finance: the major catalyst in the growth of globalization and national power
- 60 recorded crisis since the 17th century
- Asian financial crisis in 1997 precursor to the financial crisis of 2008-2009
- started in indonesia and spread to malaysia, south korea, other parts of asia and the rest of the world
causes of global financial crisis
(1) deregulation of financial markets
(D) deregulation: removed many restrictions on financial institutions in the US and other countries
- great depression of 1930s led to implementation of financial regulations to stabilize the economy and to give
american savers confidence in banks
- deposits protected by Federal Deposit Insurance Corporation (FDIC)
- rising inflation caused foreigners to lose confidence in the US $ and buy gold
- as a response, Nixon unlinked the dollar from gold and adopted a regimen of floating interest rates
- Glass-Steagall Act of 1933 prohibited commercial banks from underwriting or marketing securities (demise in
1999 due to rapid growth of capital glow across national borders and increasing power of investment bankers)
(D) global financial liberalization: opening banks around the world to competition
- Reagan pressured other countries to open their financial systems to American firms
(2) sophisticated financial innovations linked to rapid changes in computer technologies
a) insistence on free movement of capital across borders
b) the repeal of Depression-era regulations separating commercial and investment banking
c) decreased regulatory enforcement by the securities and exchange commission
d) allowing banks to measure their own riskiness
e) failure to update regulations to keep up with the tremendous pace of financial innovations
(D) securitization: financial engineering designed to reduce risk
(D) derivatives: bets on creditworthiness of a particular company, like insurance on a loan
(D) credit default swaps: financial innovation used to transfer credit risks away from banks
(D) collateralized debt obligations: linked to mortgage companies
(D) hedge funds: enabled wealthy investors to avoid some financial regulations in global financial markets
(D) arbitrage: simultaneously buying at a lower price in one market and selling at a higher price in another
market to make a profit
(3) excessive executive compensation
- the more an executive could drive up his/her company’s stock price or it’s earnings per share, the more money
he or she would get
(4) low interest rates
- easy availability of money globally
(D) sovereign wealth funds: created by countries to save and recycle surplus revenues
(5) subprime loans, esp for mortgages
- direct outgrowth of easy credit
(D) subprime loans: high rise credit given to individuals who fail to meet rigorous standards
(D) adjustable rate mortgage: a long term loan that has varying interest rates
(6) speculation in general with emphasis on speculation in housing
(D) speculation: involves excessive risk taking, excessive optimism, and the dvlpment or a hard mentality.
- speculation goes through four stages:
1) a new technology or invention changes peoples expectations and those who are well informed try to
profit from it
2) prices of profits continue to rise, which draws more people into the market
3) the boom passes into euphoria and rational decision making is suspended
4) the bust is almost inevitable. Prices and profits fall, companies and individuals go bankrupt, and the
economy plunges into a recession
- impact of the global financial crisis affected all areas
housing prices crashed, foreclosures became commonplace, unemployment rose, manufacturing
declined, students faced with higher costs
- global power shift: BRIC countries Brazil, Russia, India and China emerging global powers
- Yaga Venugobal Reddy: gov of the reserve bank of india; credited with helping india avoid the financial crisis