(BBA)CH9 Financial Crisis

(BBA)CH9 Financial Crisis - Chapter Nine Financial Crises...

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Chapter Nine Financial Crises and the Subprime Meltdown
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Factors Causing Financial Crises (p. 199) A financial crisis occurs when an increase in asymmetric information from a disruption in the financial system causes agency problem that renders financial market incapable of channeling fund from savers to borrowers with productive investment opportunities.
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Factors Causing Financial Crises (p. 200- 202) The six factors play an important role in financial crises. 1. Asset market effects on the balance sheet. 2. Deterioration in balance sheet of financial institution. 3. Banking crisis. 4. Increase in uncertainty. 5. Increase in interest rates. 6. Government Fiscal Imbalances.
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Asset Market Effects on Balance Sheets (p.200-201) A. Stock Market Decline: 1. That a decline in stock market means net worth of a corporation will fall makes lenders less willing to lend. 2. As value of collateral declines, it provides less protection for lenders. Lenders are less protection against adverse selection .
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Asset Market Effects on Balance Sheets (p.200-201) B. Unanticipated Decline in Aggregate Price Level: 1. A decrease in net worth of firms due to a decline in price led to raise value of liabilities of firm in real term. 2. An unanticipated decline in price level thus leads to a drop in lending and economic activities.
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Asset Market Effects on Balance Sheets (p.200-201) C. Unanticipated Decline in Value of Domestic Currency: 1. With debt contracts denominated in foreign currency, the debt burden of domestic firms increases as an unanticipated depreciation of domestic currency. Thus, there is a deterioration in firm's balance sheet and decline in net worth. 2. The increase in agency problems leads to a decline in investment and economic activities.
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Asset Market Effects on Balance Sheets (p.200-201) D. Asset Write-Downs 1. Asset price declines lead to a write-down of the value asset side of balance sheet of financial institutions and also lead to a contraction of lending.
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Deterioration in Balance Sheets of Financial Institutions (p.201) Given that financial institutions suffer a deterioration in their balance sheets and have a contraction in capital. Then, they will have fewer resources to lend, and lending will decline.
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Banking Crisis (p.201) As bank panic occurred when multiple banks fail simultaneously, depositors will withdraw their money from bank due to not knowing quality of bank loan portfolio. A decrease in bank lending during a bank crisis decrease supply of funds available to borrowers, which leads to higher interest rates .
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Increases in Uncertainty (p.201) Due to failure of a prominent financial or non- financial institutions, a recession, or stock market crash, It is hard for lenders to screen good credit risks from bad credit risks.
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This note was uploaded on 11/07/2010 for the course BBA 4565 taught by Professor Chushunhe during the Spring '10 term at University of Macau.

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(BBA)CH9 Financial Crisis - Chapter Nine Financial Crises...

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