Home / Articles / Ten years on: What sparked the financial crisis

Ten years on: What sparked the financial crisis


You could spend days arguing over when the great financial crisis started – about when we should pencil in as the birthday for the tidal wave that hit so many global economies.

But among the contenders, 9 August 2007 is a pretty good option.
Ten years ago today came the first public sign that something disastrous was brewing.
French bank BNP Paribas announced that it was suspending withdrawals and investments in three different funds. The bank said it had become impossible to calculate their value because of a “complete evaporation of liquidity”.
In retrospect, this should have been an enormous alarm bell.

Image: French bank BNP Paribas provided the first public sign of disaster
There was no liquidity because banks and other financial institutions had stopped lending to each other. And the reason they had done that was due to rising nervousness that a huge storm was about to hit.
For years, these lenders had put more and more emphasis on loaning money to people to buy, well, just about anything. Mostly houses, but also cars, businesses, land and many other things around the world. And for years, the bubble had grown.
Why? Well because of consumer confidence, fed by easy credit.
Here’s how it works: you want to buy a house, but it costs a lot of money. The bank lends you just about the entire cost of the house, even though it’s not entirely sure you can pay that money back. You buy the house, so do lots of other people, and so the value of houses starts going up.
That leads to two things – for one, the house that you just bought is now worth ever more, so both you and the bank can feel more confident about that investment.
And secondly, as prices go up, more would-be buyers are panicked into buying before prices become unaffordable. More people buy more houses with more borrowed money, at ever growing prices. That’s the bubble getting bigger.

Image: More people buy more houses with more borrowed money at increasing prices
But the problem with this sort of bubble is that it never, ever stays that big forever.
It doesn’t suddenly pop but, like an old balloon, gradually deflates.
In this case, people (mainly American homeowners) ended up borrowing a lot more than they could afford to pay back.

They defaulted on their loans in growing numbers and, in many cases, lost their home. Not only did that ruin lives, but it also meant that those loans were now not getting paid back. To use the jargon of the time, they had become “toxic”.
What was different about this financial crisis – and what was particularly dangerous – was that those high-risk loans from various companies had already been bundled up and turned into new financial products, traded around the world and given the fancy name of Collateralised Debt Obligations.
Thanks to CDOs, when the US housing market slumped, it caused financial chaos all over the world. The first tangible sign was that announcement from Paris, a decade ago.

Image: Long queues outside Northern Rock were one of the defining images of the crisis
A month later, Northern Rock collapsed.
So did everyone jump up on that August day, waving their arms in the air in shock?
Well… a few did.
The European Central Bank saw the smoke signals and pumped a load of money into the banking system to try to stimulate lending.
The Bank of England’s governor came back from holiday to ensure the British banking system could stand up to the tremors (it couldn’t).
But to much of the wider world, the importance of the announcement was missed. Papers, broadcasters, analysts – most thought it was interesting, but not world-changing.
Only in the head offices of banks and hedge funds on either side of the Atlantic was the true picture becoming clear – a picture of toxic loans, of banks whose balance sheets were about to crumble.
August 9, 2007.
The days when the tectonic plates moved that little bit and pushed up some lava.
The smoke was curling, the volcano was about to explode.

Source: Sky

About Business Ideas UK

My name is Joel Bissitt. I have been an entrepreneur for 24 years and have run many small businesses across various sectors. For the last 10 years I have worked mainly within online media, franchising and small business start-ups. I am an author of various websites including Franchise UK https://www.franchise-uk.co.uk

Check Also

NYSE owner ICE to buy RBS's Euroclear stake

The owner of the New York Stock Exchange (NYSE) is in advanced talks to …

Free Franchise Guide

Free Franchising Guide

 

Interested in buying a franchise? The our FREE Franchise Guide is a must! The guide contains lots of information to help you decide if franchising is right for you.

 

To claim your Free Franchise Guide click here