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Lecture 10 Thursday, October 2 Finance

Lecture 10 Thursday, October 2 Finance. Some Basic Concepts Money Investment Credit Assets and Capital gains Securities: Stocks, bonds, derivatives, etc. Leverage Speculation Bubbles. Some Basic Concepts Money Investment Credit Assets and Capital gains

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Lecture 10 Thursday, October 2 Finance

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  1. Lecture 10 Thursday, October 2 Finance

  2. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  3. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  4. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  5. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  6. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  7. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  8. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  9. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  10. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  11. Some Basic Concepts • Money • Investment • Credit • Assets and Capital gains • Securities: Stocks, bonds, derivatives, etc. • Leverage • Speculation • Bubbles

  12. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  13. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  14. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  15. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  16. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  17. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  18. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  19. BANKS • A key idea: Banks create money. How? • A problem: inherent risks in loans • Banking panics: a run on the bank • Solution: deposit insurance + regulation • Investment banks • Bank speculation & Financial Crisis • Core solution in the 1930s: Glass-Steagall act separating commercial and investment banking

  20. The U.S. Financial System

  21. Trend #1:Financialization

  22. Real Corporate Profits, financial versus nonfinancial sectors Financial sector profits 1980=100 Nonfinancial profits

  23. 2009

  24. Trend #2:Rapid growth of earnings in the financial sector

  25. Trend #3:Declining regulation

  26. Trend #4:Growth in size of financial institutions

  27. Changes over time in concentration of banking, 1935-2007 Repeal of Glass-Steagall banking restrictions Total assets of top three U.S. banks as a percent of total commercial banking assets

  28. Trend #5:Financial Innovation

  29. The Financial Crisis of 2007-2009

  30. The nature of the housing market • Mortgage loans • Risks and Foreclosures • Mortgage backed securities • Speculative markets in housing & Mortgage backed securities

  31. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  32. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  33. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  34. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  35. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  36. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  37. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  38. What happened? • Changes in the mortgage market fueled house price rise. • Key innovation was the derivatives market in Mortgage-backed securities • Result was rapid growth in sub-prime mortgages among other instruments • Investment banks got heavily into the speculative market • The speculation became increasingly leveraged (borrowing to invest) • When prices started declining, the whole structure unraveled, beginning with Lehman Brothers • Bailout needed to prevent total financial system collapse

  39. Magnitude of the crisis

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