Financial crises and economic recessions are common historic events across global nations. They are part of the financial history in relation to global economic strengths and powers. The United States is seen as being central in the financial crisis. After the Soviet Union collapsed and Communism failed, the United States was confident economic liberalization would encourage and foster economic growth, development, and prosperity. The country expected to accumulate wealth among citizens, markets, various economic sectors, and financial institutions to promote equality. Thus, the United States government formulated and implemented economic and financial policies aligned to foster growth, prosperity, and equality. In 2007 however, United States markets including mortgage and financial collapsed. This led to the global financial crisis referred to as the Great Depression. The Great Depression financial crisis spread across various global nations including Japan and European nations (Bosworth & Flaaen, 2009).
The International Monetary Fund asserted the Great Depression financial crisis can be attributed to multiple losses amounting to over four trillion dollars in relation to assets. In Europe, financial and economic crises were acknowledged as early as the 1930s. Thus, financial crises in Europe and United States can be attributed to post-war economic history. Although Europe and the United States have experienced financial crises in different magnitudes, they both can attest to the following facts. Foremost, the financial crises have multiple almost identical features. For example, financial crises are characterized by a prolonged period of rapid growth rate in relation to credit rates. The increasing credit is also accompanied by low-risk premium rates, abundant liquidity, strong leveraging and decreasing asset values and prices as well as lack of development in the real estate market (Blanchard, 2009).
These issues in the financial status in a country can interfere with several projects. For instance, financial institutions in Europe and United States were prone to adverse effects within the asset markets. The adverse effects triggered financial crises in different scales. The Great Depression experienced in 2007 was financially triggered when governments experienced soaring asset markets and economies. The vulnerable financial institutions also failed to formulate and implement financial and economic policies tasked in improving fiscal and monetary conditions. Central banks and governments within Europe and United States also failed to collaborate in order to establish fiscal stimulus. The governments should have formulated fiscal stimulus aimed at coordinating opportunities to offer protection on financial growth, development, and progress (Reinhart & Rogo, 2009).
Financial Crisis: Historic Background
In summer 2007, the United States and European nations were heavily exposed to the financial crisis. The exposure was experienced when redemptions among three investment funds were frozen by Paribas. It was asserted that it was challenging to value structured products. This is further attributed to increasing risks among banks characterized by soaring interest rates on short-term loans. In the United States, financial institutions such as Fannie May, Washington Mutual, AIG, Freddie Mac, Bear Stearns, and Hypo Real Estate among others experienced alerting systematic crises0 and failures in 2008. European banks on the other hand including Landesbank Sachsen and the Northern Rock were also alarmed through the decreasing financial activities. Both countries through the governments established and implemented numerous operations in order to rescue the soaring financial situations. However, it was too late for some financial institutions. For example, the Lehman Brothers filed for bankruptcy in September 2008. Investors were alarmed by the increasing risks and exposures on weak bank portfolios. Banks faced difficulties in raising capital. In the United States, banks raised capital through shares and deposits. However, the financial issues interfered with both modes of raising capital (Marco, 2009).
As a result, it was difficult for the majority of banks in the country to finance loans and ensure internal and external functions and operations within the organization were uninterrupted. In order to avert the soaring financial situation, financial institutions resulted in the sale of assets at throw-away prices coupled with restricted lending measures. The financial and economic situations continued to decline and credit risks increased attributed to eroding bank capital values. More so, interest rates continued to decrease hindering banks to finance operational costs. As a result, they had to provide additional liquidities against collaterals as an assurance that they would not rely on fire sales. After a period exceeding three months, balance sheets among financial institutions expanded. However, financial institutions especially commercial banks continued to experience challenges in providing lending opportunities to corporate sectors grouped within the non-financial category (Reinhart & Rogo, 2009).
The financial crises began by experiencing acute shortages in relation to liquidity ratios within financial institutions. The institutions were therefore concerned with regards to either solvency or collapse of the organizations. In the United States, the Lehman Brothers Investment Bank experienced increasing solvency concerns. The bank was on the verge of collapsing due to increased financial defaults (Dennis, 2010).
Consequently, clients lost confidence in the bank’s abilities to continue undertaking financial operations and functions in the country as well as internationally. More so, investors liquidated their stock markets and positions in the bank as a protective measure. They sought to shield themselves from suffering and incurring more financial losses in case the bank collapsed. More so, the AIG regarded as an insurance giant bailed out affected major financial institutions in Europe and United States. Stock markets and valuations declined as investors sought refuge through safe havens such as sovereign bonds. Banks refrained from offering credit facilities through loan books. Consequently, scarce trade credits were too expensive. They further facilitated a decline in growth rates among industrial firms in relation to sales and inventories. Ultimately, commercial ventures and consumers lost confidence in global financial conditions. These challenges were also experienced in other banks in the country which led to a steep decrease in financial and economic growth in the country due to a lack of confidence among investors with abilities to remove the existing credit constraints to boost investments (Dennis, 2010).
Recently, banks continue to experience challenges in relation to credit stocks, corporate borrowers, and credit line facilities. This may be as a result of the limited accessibilities among banks. The banks are cut off from accessing and affording capital markets. Although the United States government strives to provide liquidity, it acknowledges they are not sufficient in restoring functions and operation to normalcy. This is because financial crises in the country are deeply rooted in undercapitalization and insolvency within the banking systems. Financial crises in the United States and Europe were therefore caused by complex and diverse factors. Global persons are always obsessed to possess monetary strengths and powers. Thus, they can be greedy in their quest to make and own huge amounts of financial assets. Consequently, they tend to spend more than they own as they assume they can accumulate wealth at will. As a result, they either experience increasing debts which further adversely interfere with the stable financial systems, or decrease the amount of accumulated wealth. Governments are tasked with providing funds to state financial institutions and systems to prevent them from being bankrupt and collapsing (EC, 2007).
The United States was always regarded as an unprecedented power nation with unlimited and unrestricted opportunities to foster economic growth and prosperity. However, the Cold War and multiple minor financial crises coupled with terrorist attacks rendered the country vulnerable to high scale financial distress. In September 2001, the country experienced a major terrorist attack. This attack interfered with the country’s financial strengths as well as security mechanisms. Both domestic and international economic systems were damaged reducing their levels of confidence in restoring financial security in the country. Consequently, the president had to formulate policies and financial measures against future terrorist attacks. This included utilizing the limited financial abilities in the country to provide sufficient budgets to the United States defense department tasked with securing the nation. The funds were utilized to establish the Homeland Security Department aligned to a new globalization agenda. Companies within the United States undertaking operations and functions beyond the country borders had to overcome restrictions imposed in foreign countries. This translated to the United States government spending extra funds. The funds were utilized to encourage local and international consumers in order to strengthen the economy and financial securities. Thus, government debts increased in order to facilitate the establishment of easy access to capital through economic globalization (Bosworth & Flaaen, 2009).
Financial experts assert that the United States faces financial crises due to historic mistakes undertaken by the government in order to boost financial security in the country. They affirm that the country valued form rather than substance. More so, it prioritized prestige over virtue and short-term financial strength in relation to money over long-term achievement. In Europe, over nineteen nations suffered from the 2007 financial crisis adversely affecting the Euro. The crisis was experienced at various economic levels including income, tax, and social insurance contributions. For example, European countries experienced an economic shock estimated to decrease the income by at least thirty eight percent. This decrease was higher than that experienced in the United States approximated at thirty-two percent (EC, 2007).
The high-income shocks in Europe also affected employment rates. Unemployment rates in Europe increase further decreasing the benefits awarded from unemployment. The European Systematic Risk Council is tasked with monitoring and assessing financial risks and threats. These threats often arise from macro-economic developments affecting financial stability in Europe. National financial administrators from the European System of Financial Supervisors are tasked with safeguarding financial stability and soundness at the local and national levels in the region. They ensure consumers are protected from soaring economic and financial conditions in Europe including the financial crises. They gather data relevant to monitoring financial threats and opportunities. Threats against financial stability from macro-economic developments in the financial systems are identified and prioritized in developing solutions and recommendable reaction measures. Significant risks often exert warnings such as soaring interest rates, decreasing income levels, and lack of confidence among investors (Carmassi, Gros & Micossi, 2009).
In Europe, the International Monetary Fund liaises with the European Systematic Risk Council, the European System of Financial Supervisors, and other global nations at the verge of experiencing a financial crisis to prevent insolvency without overburdening taxpayers. Measures applied in preventing financial crisis include the provision of equity, funds, and finances through current taxes and government debts. Consequently, the governments regulate and supervise financial institutions to reduce insolvency risks. European nations and the United States governments assert financial crises arise from individuals coupled with capitalism. Estimates on losses within the financial markets are applied in evaluating the severity of financial crises in Europe and the United States. They are also applied in formulating applicable solutions to avert financial distress positively (EC, 2007).
The Federal Reserve through the stress test known as Capital Assessment Program applies different approaches to measure and estimate effects and losses from the financial crisis. Banks within the United States recorded estimated losses at over nine hundred million dollars in April 2008. However, these losses declined to over eight hundred million dollars in September 2008. In Europe, the estimated losses were experienced through decreasing amount of loans awarded and the high rates of securities lost. The International Monetary Fund estimated that European nations lost billions in comparison to the lost million dollars in the United States. Thus, Europe experienced more severe financial distress than the United States (Carmassi, Gros & Micossi, 2009).
Proposed Solutions to Address Financial Crisis
In 2009, Loius Pauly asserted financial crises are deeply rooted in the unwilling nature of citizens and governments. The two parties lack the will, desire, and interest to formulate policies that can be implemented across border global nations to prevent financial and economic distresses. Macro-economic imbalances also play key roles in facilitating financial crises. For example, increased consumptions coupled with decreased savings interfere with financial balances in a country’s financial institutions. Governments should formulate financial and economic policies aimed at reducing consumption rates in order to encourage and increase savings. Savings can be utilized to solve deficits in the government further shielding consumers from soaring interest rates, weak bank portfolios, and credit constraints among financial institutions (Dermot & Lucia, 2009).
Domestic policies should be formulated to increase asset values and capital as well as trading activities. Financial institutions should avoid facing capital challenges. Instead, they should strive in ensuring there are multiple profitable measures with reduced risks. They ought to offer bonuses without being exposed to financial risks in order to ensure true economic values in relation to sales and purchases are realized to reduced costs. Such measures can expand credit facilities and investments. Consequently, they provide financial security during an economic and fiscal crisis. Governments and financial institutions should always co-operate during financial crises. They should formulate policies and interests applicable at a national level to respond to the financial crises (Cerra & Saxena, 2008). The New-Keynesian economic model asserts that achieving price stability, responsible financial and economic operations, and counter-cyclical monetary policies can either prevent or reduce the effects of the financial crises. Thus, policies formulated by the government at the macro-economic level share responsibilities in achieving financial stability while fostering growth, development, and prosperity (Carmassi, Gros & Micossi, 2009).
After a financial crisis, governments ought to undertake measures and approaches aligned to amend and reform the economy. Political and economic policies should therefore be competitively advantaged in boosting financial growth and stability as well as independence among global nations. European Union policymakers disregarded financial innovations aligned in securing, stabilizing, and hedging financial powers in the regions. More so, the European System of Financial Regulators was denied an opportunity to manage and control financial activities undertaken beyond European borders. Thus, the fiscal and economic activities could not be accredited to affirm if they were credible contributors to financial stability in the region. Consequently, multiple financial institutions and economic markets in Europe were hindered from supporting and promoting investments and policies fostering economic growth (Marco, 2009).
The United States, European nations, and global countries ought to learn the following lessons from the past financial crises. Foremost, a financial crisis is still a major challenge that can affect world economies at any time. Researchers assert financial crisis is a persistent global challenge. Thus, governments ought to maintain and support financial systems to prevent them from collapsing during a financial crisis. Government support plays a key role in boosting confidence among consumers and investors. Rather than withdrawing their support, they also strive to promote financial systems through established financial institutions in order to overcome a financial crisis. Consumers, citizens, and investors determine interest rates on credit facilities provided by financial institutions. Interest rates often increase when credit facilities are restricted and constrained. However, it is challenging for consumers to acquire credit facilities from financial institutions especially due to increased unemployment rates. Thus, soaring interest rates, high rates of unemployment, and restricted credit facilities attribute to deeper adverse effects from a financial crisis (Johnson, Parker & Souleles, 2006).
Governments should also support aggregate demands to prevent and reduce deflation. Aggregate demands expand fiscal and monetary policies in order to offer sufficient liquidity. Financial institutions with sufficient liquidity are able to provide credit facilities at affordable interest rates. More so, they ensure economic and financial resources are allocated equally and sufficiently across various sectors and markets to ease inflation pressures (Carmassi, Gros & Micossi, 2009).
International trading activities ensure there is a free flow of capital across global nations. Cooperation and stable financial systems among the trading nations also record increased exports. During a financial crisis, the trading nations can maintain trading activities thus, encouraging and supporting the free flow of capital. This further supports internationalism rather than nationalism. Nations are free and open to formulate fiscal and monetary policies encouraging the movement of goods and services internationally. Consequently, nations are pressured to solve domestic financial issues in order to adopt unilateral policies aligned to a straightforward, strong, and maintained financial system. The system encourages economic governance, growth, and expansion irrespective of a financial crisis (Carmassi, Gros & Micossi, 2009).
Financial crises are distressing and shock experienced across various global nations including European nations and the United States. They interfere with the financial and economic stability established in a country through the government. Although they are severe, several measures and approaches can be undertaken to prevent or reduce the short and long-term effects. However, governments ought to pay attention to the warning signs and risks facilitating financial crises. They reduce global trading activities, increase rates of unemployment, and unprecedented household foreclosures. Governments and financial institutions should therefore focus on regulating financial innovations. More so, they ought to manage and monitor financial risks to encourage and support financial liberalization and strengthen economic affairs.
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