A Case Study of the Banking and Financial Crises

4. Some solutions to the recent Banking and

Financial crises


Solutions used by the UK

1. In order to deal with the banking crises, many solutions were carried out. The UK central bank reduced the basic interest rate to motivate the commercial banks to reduce their lending rate. In 05/03/2009, the England Central Bank announced to reduce base interest rate from 1% to the historical low point, 0.5%, to stimulate the economy to recover. The following chart shows the change of base interest rate of the Bank of England from November of 2008 to April 2010.

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2. The UK government injects money to the banking system to make sure they have enough money to lend to the market. There are some relevant events:

In 13/12/2007, the UK central Bank injects 10 billion pounds to offer a 3 months cash mortgage loan, which does not have lowest interest.

In 08/10/2008, the Prime Minister Brown approved the initiative to use the taxpayer’s money to inject to the main commercial banks, which costs 35-50 billions.

In 13/10/2008, the UK Financial Department announced to inject 37 billion pounds to 3banks.

In 28/10/2008, the euro central bank provides 325.8 billion loans to the UK.

3. Beside banking and financial crises, the UK government is trying to improve some other aspects of the economy. Some big firms were going to merge with each other such as the merger project of Lloyds Banking Group and Halifax Bank. The UK government had nationalized some key firms to increase the intervention efforts on the economic development, and thus improve the government’s regulatory capacity to the economy. Nationalization accompanied with merger could protect some key industries in the economic crisis and can help these industries to recover, thus lead the British economy to recover. For example, In 13 October 2009, the UK financial department injected 20 billion pounds into Royal Bank of Scotland to obtain 60% of the bank’s share; another 17 billion was injected to the two merged corporate, Lloyds Banking Group and Halifax Bank, so the government would gain 40% of the shares of the new corporate.

Solutions used world widely

US

The US Federal Reserve accompanied with other four countries’ central banks introduced a policy to take over the mortgage of the commercial banks and provide them direct injection. The US government also increased financing channels and made it diversify to give individuals and institutions more options to choose, which will reduce the pressure of the banks.

China

In China, a very popular solution is entrusted loans, that is, the lender provide money and ask the commercial bank to find a borrower; then the bank evaluate the borrower and lend the money to the borrower and monitor the repayment.

A Case Study of the Banking and Financial Crises

3. How the recent banking and financial crises affects the UK’s economy

Unemployment

First of all, Banking and financial crises caused high unemployment problem. Banks are unwilling to lend money to the public, which causes many problems. On the one hand it may be difficult for individuals and companies to borrow money from the banks because the banks did not think they could repay the money. Thus they cannot do new business and even might lose the businesses they have already got. On the other hand some commercial banks increase their lending rate, which means individuals and companies have to bear heavier pressure. As a result, many companies have to lay off their employees. The UK unemployment rate in the fourth quarter of 2007 was 2.5% (160ms) and had reached to 7.9% (2.47ms) in the third quarter of 2009, which is the highest among the past 14 years since 1995.There are some representative data from banking system, such as British Airway would cut 597 posts by March 2008.


From 2008 to the first quarter of 2009 more than 5000 posts was cut by auto industry in the UK.
18/09/2008    Lloyds Banking Group purchases Halifax Bank and the announced to cut 40,000 posts

26/09/2008   HSBC announced to cut 1,100 posts worldwide, include 500 in the UK.

Sep/ 2008     Bradford-Bingley Bank cut 370 posts.

10/10/2008   Barkley Bank announced they would cut 1,100 posts in the next three years.

11/11/2008    Virgin Atlantic announced to cut 1,300 posts in the next 10 months.

13/11/2008    British Telecom announced to cut 10,000 posts.

14/11/2008    Royal Bank of Scotland announced to cut 3,000 posts.

17/11/2008    City Bank UK announced to cut 12.000 posts

26/03/2009    HSBC announced to cut 1200 posts

14/05/2009    British Telecom announced to cut 15,000 posts

Main industry

Secondly, beside the banking system, the financial crises also hit some main industries of the country hard, such as the real estate industry and the shipbuilding industry. As we know these two industries are two main industries of the UK real economy. Decline in these two industries would hurt large numbers of related industries. The financial institutions are less likely to lend money to the market. Buyers cannot borrow enough money to do purchase, thus speed up the burst of the asset price bubble and even cause more serious financial crisis.


Besides, it causes huge problems in shipbuilding industry. Due to the banking crises, individual can’t borrow enough money to buy boat. The economic crisis also reduced the maritime trade and thus reduced the demand of the ship, many shipbuilding companies had to go bankrupt.

In recent years, the house price was at a high level, but due to the banking and financial crises, there were not sufficient currency to support high housing price. The real estate industry is facing a dramatic price reduction.

High-tech industry
Thirdly, the banking and financial crises also caused many problems to the UK’s high technology industry. Many high-tech enterprises have to cut the staffs and meanwhile, some companies also reduced their research funding. And it takes more time for these high-tech industries to recover from the crash. Such companies like Jaguar and Land Rover, their manufacturing output had reached to the lowest level over the past 12 years. It is extremely difficult for these companies to recover once they lose technical workforce and research and development (R&D) capabilities, so the government must increase the effort to help these companies to recover. As a result, the banking and financial crises would have a very huge effect on the economy. It would obstruct the recovery of the economy. In 2008, 1% of the UK’s GDP reduction was caused by the financial crises.

A Case Study of the Banking and Financial Crises

2. The sources that have caused recent

banking and financial crises

The recent banking and financial crises in the UK were the consequence of the world’s economic crisis, which was originally caused by the subprime crisis in the US. The subprime problem first appeared in the spring of 2006, and gradually come to the surface in August 2007. During the same period of time, central banks in different countries increased the interest rate in order to solve the inflation problem. However, the rate had risen too quickly so that large amount of default appeared, real estate bubble began to burst, and the problem became worse and consequently broke out widely. Hence, subprime problem was renamed as subprime crisis. It has led to huge losses to many world-renowned financial institutions, and also caused the liquidity shortage of the financial markets in many countries. At the same time, the world economy continues to go down and thus the financial crises emerged because a huge loss on banking system that banks want to protect themselves and avoid further losses.

In this situation, banks will make lending decisions mostly based on the prediction of the market, but a long term economy down turn will exceed the bearing capability of many borrowers, leave them bankruptcy, and consequently default to the lenders. For the UK, as an economy who had invested a lot in the US, the UK was one of the earliest nations who had been affected by the crash in the US. With a huge loss on banking system and disappointing economic prediction, credit crunch in the UK is even more serious than it was in the US.

The Financial crisis is just like a destructive big fire. Do you think banks will let their money burnt 

and disappear?   NO!

 

                         

A Case Study of the Banking and Financial Crises

1. What is banking and financial crises?

Banking crises is a type of financial crises, when a commercial bank suffers a sudden rush of withdrawals by depositors, this is called a bank run. Since banks lend out most of the cash they receive in deposits, it is difficult for them to quickly pay back all deposits if these are suddenly demanded, so a run may leave the bank in bankruptcy. A situation in the bank runs are widespread is called a systemic banking crisis or a banking panic. 

Historical experiences of Banking & Financial crises

First, the study of banking crises has typically focused either on earlier historical experiences in some countries. During the research, we can see the banking crises is usually accompanied with long-term economy downturn, such as the Great Depression in 1930s, the big savings and loan crisis in US on the late 1980s and early 1990s and the present worldwide financial crisis. Then the Asian financial crisis came in 1997, the subprime mortgage crisis is the fourth major banking crisis since World War II. Also In 1992, Japan’s asset price bubble burst in a long time banking crisis. Around the that period, several countries in Eastern Europe joined the ranks of nations facing banking sector problems. Followed by the famous Asian crisis of 1997–1998, and then the troubles of Russia and Colombia, among others. Those countries drop in the banking crisis cycle. In the summer of 2007 when the subprime crisis in the US began in earnest, soon morphing into a global financial crisis. and by far the biggest. From the figure it show so clearly.

In some details, the reason is that banks will make lending decisions mostly based on the prediction of the market, but a long-term economy down turn will exceed the bearing capability of many borrowers, leave them bankruptcy, and consequently default to the lenders. For the present disappointing financial crisis, as far as we can see, in the UK many institutions, homes and individuals cannot afford to repay the loan, which increase the credit risk of the lenders, so lenders such as banks are unwilling to lend money. What’s more, many big banks in the UK have already suffered huge losses during the economic crisis. 

As an important primacord of global financial crisis, It have been rushing many areas of global economy; such as house price, share prices market (Northern Rock case) , interbank rates (European Central Bank case) and so many other areas. In the UK, Royal Bank of Scotland had lost £28bs in 2008 and Lloyds Banking Group had £10b loss in 2008.Both of them have been taken over by the UK government. The economic downturn in turn makes the bank to tighten the credit quantity, which made banking and financial  problem even more serious.