Welcome to Part 2 of our GFC coverage! Thanks for staying with us. Last week we mentioned there was one country that was also at the backbone of the GFC and it’s a country you probably would not have guessed… Iceland. If you didn’t get a chance, head over and have a read of The GFC Explained – What You Didn’t Know. This might have come to a complete surprise to some people or shock, but they’ve been in the corner stirring up chaos. Years before the crisis occurred, Iceland was gearing themselves up for failure. Iceland was never known for its banking and financial sector but the prime minister at the time was Geir H. Haarde and he introduced to the Icelandic economy free market principles, meaning he wanted to privatize everything owned by the government. (Should make alarms go off for every one who may hear the governments across the globe talk about this). These newly privatized banks in Iceland were selling each other securities back and forth and therefore, pushing up the prices of those securities. And what does this mean exactly? Their value was falsely inflated (D A N G E R)… sound familiar? It should, but we’ll get to that soon. The people of Iceland were thoroughly encouraged to buy a house… or two. The central banks at the time lowered their interest rates and there was easy credit being flung around all over the country… extra extra get some free credit! Meanwhile, a lot of people came back to their country to take advantage of this and around the same time, the US real estate boom was also occurring… which isn’t necessarily a bad thing, but what went down was.
The same thing was happening in Dubai. Dubai’s’ waterfront property rose in value, the Burj Khalifa had just been built back in 2004 and about $1billion worth of real estate was being sold EVERY DAY! Yes, it was a stupendous time for the world real estate markets, but some people began to speculate when this bubble burst. Now, don’t get in your mind that a bubble is always* a negative thing, because there are healthy bubbles and negative bubbles!
As the American economy was attempting to recover from the ‘dot.com’ boom, the federal bank decreased their interest rates to a low of 1%. Heaps of homes were being purchased with mortgages and the increases in property valuations ultimately saw a decrease resulting in homeowners being put out. The mortgage debts became higher than the actual value of the property. In other words, the value of the house used to secure the loan taken out is less than the outstanding balance on the loan itself which isn’t a healthy credit situation for anyone. So, the only thing left to do for homeowners was to throw their properties back onto the market. This then lead to a sh*tload of money and credit being spun throughout the global economy and it presented itself in the form of sub-prime mortgages.
We now come back to the financial products we mentioned in Part 1 (Mortgage Back Securities and Collateralized Debt Obligations) and the real estate boom. These products had infected the whole world and it was just a matter of time before someone would pipe their heads up and ask what these were actually worth. Which brings us to Paris.
In 2007, one of the largest French banks named BNP Paribas realized it had been infected with these products and immediately ceased withdrawals of these funds. The French banks collectively then started to close down accounts as no one could place a value on these securities. Let’s jump over to London now.
The Northern Rock Bank faced the exact same issues and had to apply for emergency financial support from the Bank of England. The next day, customers of Northern Rock Bank were lining up one by one to withdraw all their money, no longer trusting the system. This downfall was only the beginning but Wall Street still didn’t take any notice. Their mentality was pretty much ‘if it’s not happening to us, then we don’t want to know’ – welcome to Wall Street people. They didn’t take any notice until one of their own started to down spiral…
Alright, let’s head back to the USA now, most particularly Washington DC. Allow us to quickly introduce previous Goldman Sachs CEO Hank Paulson who at the time was the US Treasury Secretary. Let’s just say he was not a well-liked person for moral or ethical reasons. In the year of the meltdown even though these financial products started to poke their way through the walls of Wall Street, Hank Paulson still maintained to the rest of the world that the USA was fine, which was a load of bullsh*it. The first big Wall Street Titan to go was Bear Stearns – if you haven’t heard of them then we suggest you head to Google. This company was home to the richest CEO on Wall Street – Jimmy Cane, – yea, he was a baller. Bear Stearns (who had made bets on these mortgage backed securities was having a terrible time on the stock market and finally in March 2008, everything went to sh*t. They couldn’t raise the cash they needed to sustain themselves, they had liquidity issues and they knew their customers would immediately withdraw their money out of the bank. On March 16, Bear Stearns was then taken over by JPMorgan. Can you guess what these guys paid for them? A measly $2 per share! Bargain if you ask me. This came as a massive shock to the economy… we mean, who ever thought a massive bank like Bear Stearns would be taken out of the game! That, and there was the assumption that the government itself would never let a bank go bust but we’ll get to that later, as this one fact raises a huge public outcry after the GFC started to calm down and the truth came out.
The collapse of Wall street did not stop there. Another Wall Street Titan began to spiral into a meltdown… do you know which one? Stay tuned to find out how one of the biggest financial stories in history ends next week!