Look At Overview Of Banking Crisis

Published Date: 02 Nov 2017

Banks are disposed to many forms of risk which have triggered occasional systemic crises. The risks include liquidity risk where many customers may requests excessive withdrawals, credit risk which the borrowers may not repay to the bank, and interest rate risk, there is possibility the bank will loss, if interest rate increase which force it to pay relatively higher on its deposits than it receives on its loans.

Banking crises have developed many times throughout history, when one or more risks have materialized for a banking sector as a whole. The popular crises which include the bank run that occurred are during the Great Depression, the Japanese banking crisis during the 1990s, and the sub-prime mortgage crisis in the 2000s.

Mostly a banking crisis is affected by financial crisis that affects banking activity. Bank crises include bank runs, bank panics and systemic banking crisis.

Bank runs

Bank run will happen when the depositors of a bank withdraw their money out respectively due to concerns about the bank’s solvency (Diamond, & Dybvig, 1983). When there is more depositors withdraw their deposits, the probability of bank’s default is increases. In serious cases, the bank’s reserves may not be enough to cover the withdrawals as the bank keep only a small fraction of deposits on cash in hand. The bank lends out the majority of deposits to borrowers or uses the funds to purchase other financial assets such as government securities. When a run comes, the bank faces insolvency as bank hold little capital and are high leveraged.

Bank panics

Bank panics occurs when many banks suffer runs at the same time, as many customers suddenly try to withdraw their threatened deposits into cash or try to get out of their domestic banking system altogether.

Systemic banking crisis

Systemic banking crisis is when a country’s corporate and financial sectors experience a large number of defaults (Laeven & Valencia, 2008). The financial institutions and corporation face great trouble to repay contracts on time. Consequently, non-performing loans increase dramatically, and almost of the banking system capital is worn out. There is some cases that crisis is triggered by depositor runs on banks, in most cases it is a general realization that systemically important financial institutions are in sorrow.

According to Carmen and Kenneth, 2009, a banking crisis is happened when bank runs that lead to the failure of financial institutions, or by demise of a financial institution that starts a string of similar failure.

In this assignment we had found the 20th century and 21st century of the banking crises which are prominent, and bring a great impact to the world of economy. Therefore, we had looked into Great Depression, Subprime Mortgage Crisis, and European Sovereign-debt Crisis.

Overview of Great Depression

The Great Depression was a severe worldwide economic depression in the decade preceding World War II. The timing of the Great Depression is difference across nations, but most of the countries started in 1930 and lasted until the late 1930s or middle 1940s. It was the longest and most severe depression ever experienced by the industrialized Western world such as North America, Europe and other industrialized areas of the world (Romer, 2003). Although the Depression originated in United States, it resulted in declines dramatically in output, harsh unemployment, and acute deflation in almost every country of the world.

The Great Depression was originated in United States and began in the summer of 1929 and it became markedly worse in late 1929 and continued until early 1933. On Black Tuesday, 29 October 1929, the day the stock market crashed and the official beginning of the Great Depression. As the stock price plummeted with no hope of recovery, investors starts panic. Every investor tried to sell their stock, but no one was buying.

During the next three years, the New York Stock Exchange continued to fall, until by late 1932 they had dropped to only about 20 percent of their value in 1929. Many banks had also invested huge portions of their customers’ saving in the stock market; these banks were forced to close when the stock market crashed. In this situation, many people rushed to banks that were still in operation to withdraw their money as they afraid would lose their deposits and savings. This massive withdrawal of cash caused additional banks to close as banks forced into solvency. By 1933, 11,000 of the United States’ 25,000 banks had failed. This situation is also known as bank panics.

Many businesses and industries were also affected as lost much of their capital in the Stock Market Crash or the bank closures. Many businesses started cutting back their employees’ wages or hours. In turn, consumers began to less spending, refraining from purchasing luxury goods. Indirectly, it caused businesses to lay off their employees. The output was falling drastically and conversely, unemployment was rising drastically. By 1932, U.S. manufacturing output had fallen to 54 percent of its 1929 level, and unemployment had risen to between 12 and 15 million workers.

The Depression also had hit had in the cities all around the world, especially those dependent on heavy industry. Construction was virtually stopped the progress of in many countries. Farming and rural areas suffered as crop prices fell by about 60%. Moreover, areas dependent on primary sector industries such as cash cropping, mining, and logging suffered the most as facing low demand with alternate sources of jobs.

Consequently, millions of people are unemployed and many firms and businesses were bankrupted. For those industrialized nations and primary products suppliers were all affected in one way or another. In Germany, the United States industrial output fell by about 50 percent. There is between 25 to 33 percent of the industrial labor force was unemployed. The Depression was sooner to cause a complete cycle in economic theory and government policy.

And now, in the 21st century, the Great Depression is commonly used as an example of how far the world’s economy can decline.

Overview Subprime Mortgage Crisis

Subprime Mortgage Crisis was started in 2006 with US Market tumbling down due to default by the subprime borrowers. The doubled edged sword which implemented increase in interest rate and at the same time fall in property prices, hit the market leading to subprime. Following the technology bubble and the events of 11 September, the Federal Reserve stimulated a struggling economy by decrease interest rates to historically low levels. Therefore, a housing market increase was occurred.

As part of the housing and credit booms, the amount of mortgage-backed securities which derive their value from mortgage payments and housing prices is rising dramatically. Such financial innovation enabled institutions and investors around the world to invest in the U.S housing market. Therefore, when housing prices declined, major institutions that had borrowed and invested heavily in mortgage-backed securities reported significant loses. Defaults and losses on other loan types also increased significantly as the crisis expanded to other parts of the economy. It estimated that there is trillions of U.S dollars loss in global.

Defaults and foreclosure rate increased sharply as easy initial terms expired, prices of home failed to go up as anticipated, and adjustable-rate mortgage (ARM) interest reset higher. As a result, 23 percent of U.S. homes worth less than the mortgage loan by September 2010, and provide a financial incentive for borrowers to enter foreclosure. When home owners’ defaults on their loans, banks do the cam seize the home pledged as collateral to recover their money. So, the bank sells the house at auction which usually for a price far lower than what it is worth to recover some of its money. This has increasing the supply houses on the market, which further decline home prices, creating a vicious cycle.

As a result, banks have lost millions of dollars in the above manner; it lights in comparison to the billions lost in mortgage backed securities. At the beginning, everyone thought that the mortgage securities bonds were very safe investments as with AAA rated and very low default risk. Later, price of house were increased, and the banks could seize the valuable real estate collateral if people defaulted. As investors, they bought these bonds by billions of dollars. However, the forces detailed above began to take effect. Prices of real estate began to fall, and then the owners began to default in larger than expected numbers. At last, these bonds did not look safe anymore.

As there is high provision debt as exists uncertainty about borrowers’ ability to repay, ratings agencies began to downgrade the bonds rating which means they were now perceived as more risky by the Standard and Poor’s (S&P). Suddenly, the newly downgraded bonds fetched much less on the open market. Overnight, the safe assets with $100 billion only could be sold for $75 billion. However, there is no one to touch them as fears spread about just how risky is the mortgage bonds might actually be. The market for mortgage bonds dried up quickly, easting the true value of the bonds into even further doubt.

Once the interest rate decline, it had increased loan incentives such as easy initial terms and long-term trend of growing housing prices encouraged borrowers to assume difficult mortgages in the belief they would be able to refinance at more favorable terms. However, in 2006 to 2007, the interest rate began to increase and housing prices started to drop moderately in many parts of the U.S., refinancing became more difficult. As people faced with high payments, they would sell the house and "buyout" mortgage with the proceeds. However, the selling price of house would not enough to cover the amount of the mortgage it was purchased with at inflated 2005 prices. The home owners left only one option as to default.

The crisis had affects on global stock markets dramatically. Between 1 January and 11 October 2008, stocks owners in U.S. corporations had suffered about $8 trillion in losses, as their holdings decreased in value from $20 trillion to $12 trillion. Losses in the stock markets and housing value declines place further downward pressure on consumer spending.

European Sovereign-debt Crisis

The beginning of the European sovereign debt crisis is on 5 November 2009. On that day, Greece revealed that its budget deficit was 12.7 percent of gross domestic product (GDP), more than twice what the country had previously disclosed. Not only Greece, Ireland and Portugal are having gotten themselves deep in debt in recent years. They needed to borrow billions of dollars in 2010 and 2011, to keep their governments functioning and to make payments on the interest.

Governments have had to cut their spending by lying off government workers and reducing pensions and increase their revenues by raising taxes. However, the problem was not solved, though, Greece’s economy is contracting and its debt keeps increasing.

At the same time, Spain and Italy are also facing high debt levels, with no hope of economic recovery in the short term. This is because their economies are much bigger than Greece’s; their effort could threaten the Euro to be stable. If investors decide that a collapse of the Euro is foreseeable, that may become a self-fulfilling prediction.

The crisis had widening the bond yield spreads and risk insurance on credit default swaps between these countries and other European Union member states, especially Germany. By the end of 2011, Germany was estimated to have made more than €9 billion out of the crisis as investors flocked to safer but near zero interest rate of German federal government bonds. The Netherlands, Austria, Finland, Belgium, France, Switzerland and Denmark are equally benefited from lower interest rates. The crisis also harmed its export sector as a substantial influx of foreign capital. For example, there is rise of the Swiss franc. In September 2011, Swiss franc is no longer tolerates a euro-franc exchange rate below minimum rate of 1.2 franc. It was the biggest Swiss intervention since 1978.

Besides, the crisis also had made political tensions within the bailed out countries and among the countries of the European Union. There is resistance to bail out countries that are seen as having behaved irresponsibly in Germany. Moreover, in Greece, the people had anger at the government and at more wealthy countries which required Greece to impose job cuts. This had brings effect that left more than 16 percent of the workforce unemployed.

Although sovereign debt happened caused by a few Eurozone countries with the three most affected countries Greece, Ireland and Portugal, it has become a perceived problem for the area as a whole. In addition, it has leading to speculation of further contagion of other European countries and a possibility to breakup Eurozone. By the end 2012, the debt crisis forced five out of seventeen Eurozone countries to seek help from other nations.

The real origins of the crisis can be traced to the very structures that govern Europe’s institutions and to the players that govern European institutions. As we know, the creation of the European Union began with ratification of the Maastricht Treaty on 7 February 1992. With the case, The Maastricht Treaty failed. However, Greece, as a member failed to meet the convergence criteria to provide enforcement mechanisms. Instead of enforcement mechanisms, the only provision is the European Commission to prepare a report for the Economic and Financial Committee’s opinion. Economic and Financial Committee is a body that set up under the terms of the Treaty.

Based on the crises that we described above, we would like to discuss more about the causes of the crises happened, the effect of the crises to the economy of countries, and the solutions of the crises happened.

2.0 What causes of the banking crisis?

2.1 The causes of Great depressions

What actually causes the great depressions that subsequently become the worst depression in United States history? It was debated hotly across the world even until now by researchers showing new and further evidences. Among all, majority of them belief not just one factor, but a combination of local and international conditions that led United States to depression. However, there are no common understanding reach by past historians and economists upon the causes, therefore, hereby we discuss a few main causes of the great depressions which is the stock market crash of 1929, bank failures, implementation of Smoot Hawley tariff 1930 and market panic-reduction in purchasing from abroad.

The stock market crash 1929 are said to be the spark that started the fire which cannot be stopped. The crash falls on 24th and 29th of October on Tuesday and Thursday and better known as Black Tuesday and Thursday. On 3rd of September 1929, the Dow Jones Industrial reached a high record of 381.2, many people still belief the market would bull higher indefinitely with their optimism and blind by the greed and therefore they participate in the market regardless of the danger of speculating. Subsequently at the end of 24th October the market dropped to 299.5, a 21 percent decline in value, that’s the when the selling panic starts. Although efforts are made by Richard Whitney, vice president of the exchange, and William Durant, one of the financial giants, through huge purchases of shares to calm the market, however, it is only a temporary recovery and subsequently the falls continues. By the time the crash done in 1932, stocks lose 90 percent of their value; people lost more than 40 billion dollars, chaos and panic spread among people and lead to the depression.

The next causes would be the bank failure and bank run. Before stock market crash, brokerage firms and banks lend out more money than they have. Brokerage firms averagely lend out 9 dollars for every 1 dollar the investors deposited. After market crash incident, brokers call back their loans which impossible to collect back. Bank runs and panic occur at the same time when debtors defaulted on repayment and depositors trying to take out their deposits. Banking system failures causes loss of billions of dollars again in asset. This become serious when people start losing their jobs, the values of dollars keep on depreciating while the amount of debt owe to bank still remain the same. As time goes on until early of 1930, 744 US banks failed because of could not collect back the loans. Others bank that survived no longer provide easy loans for people, and this really slow down the economy.

Thirdly, it is about United States implementing Smoot-Hawley tariff act which sign and enforced on 17 June 1930. The tariffs basically affect over 20,000 imported goods from overseas to record high levels. At first the tariff seems to be success, industrial production increased sharply, however, others countries retaliate back with their own increased tariffs on United State goods, resulting in American export and import plunged by more than 50%.

On the hand, market panic and reducing of purchase goods from abroad causes the Great Depressions. After stock market crash, people uncertain about future economic problems and nobody are willing to buy items in the market anymore. This panic not only happen to lower class citizen who are poor but all of them. When demand is low, the producing factory cut down the number of items being produced until a level where factory owners start to lay off workers since the factory no longer produce more. The unemployment problem once rose above 25% which worsen the economy.

2.1 The causes of United State subprime crisis

Every crisis started with an origin, US subprime crisis born when Federal Reserve approved a loose monetary policy on late 2001 originally intended to save US out from recession. No one knows this action of Federal Reserve contributed to the housing bubbles. The loose monetary policy made everyone happy because house builder face high demand of houses and house owners acquired loan with super low interest rate of 1%. Subsequently, house prices rocket high and slowly the value of house detached from the underlying rental values (Papadimitriou et al 2006). The bubbles continue to grow and eventually burst on 2006.

During year 2004 to 2006, Federal Reserve Board adjusts the interest rates more than 15 times and increases the interest rates from 1% to 5.25%. Fed stopped raising the rates because fear of reduce demand on houses in housing market would result in drop in house prices. Unfortunately, the fact is cruel and the housing bubble burst, the house prices drop dramatically. House owners feels that the loan that they repaying no longer worth the house price and start to default in the loan. Economist from New York University, Nouriel Roubini said that Fed should increase the rate earlier than it did at 2004 to avoid growing of house bubble.

Conflict of interest between mortgages broker and lending institutions also contributed to the subprime crisis. Let’s get to the time between years 2001-2004, to check for evidence. During the 4 years, the housing loan boom and 68% of the 100% residential loans in whole United States are done by mortgage brokers. Those loans include subprime and Alt-A loans which hold 42% out of the 68%. The Mortgage Bankers Association did make a claimed that brokers earn a lot from the housing loan boom but leaving them problems. Brokers did not go through deep enough to determine the ability of the borrowers to repay the loan and resulted defaults of payment. All this happen because the money they loan out is not broker’s money, it is not their interest. Whether the loan performs badly or well, there is none of their business. Besides, there are incentives to those brokers who successful selling complex ARMs (adjustable rate mortgage), therefore, they try their very best to sell the loans even the target doesn’t seems like fulfill the criteria of borrowing. Meanwhile, mortgage underwriters, whose job is to determine the risk of lending to a borrower also indirectly involved in the conflict of interest. 40 % of all the subprime loans are not done by human, but automated underwriting. Approving loan now require minimal documentation and faster decisions, sometimes, it only takes 30 seconds to go through. As compare to pre market crash, every application takes around a week for an underwriter to generate decision.

Last but not least, securitizations of mortgage backed securities are blamed by Chairman of Federal Reserve, Alan Greenspan as the main causes for mortgage meltdown but not the loan itself. The securitized share of subprime mortgages, increased from 54 percent in 2001, to 75 percent in 2006 which means more and more risk are transferred to third party investor but not to the bank. Initially investors with money invest in Federal Reserve treasury bills because it is rated AAA, being the safest investment. However, on September 11, the Fed lower down the interest of treasury bills to only 1% and investors find that it is very little. They shift all their investment into CDO (collateralized debt obligation), which is the product after securitization of subprime mortgages because it gives far more interest. Lending institution packed up all the mortgages and sold to investment bank. Investment banker divides them in three pieces which is safe, moderate and risky and open for investment for investor according to their risk appetite. The cycle of securitization goes well and good, banks and investment banks earn millions of dollars until the many of the subprime owner’s default and housing bubble burst.

2.2 The causes of European sovereign debt crisis

The true causes of the debt crisis still not yet been identified, but many Northern European journalist and politician point their fingers to Southern European states for its incapability to manage deficit spending and corruptions. On the other hand, others reveal the systemic failure of EMU (European Monetary Union) to be responsible for the vast amount of sovereign debt. Hereby, we choose to focus on the systemic issues which related to inherent structural illnesses.

Many researchers blame the establishment of the European Monetary Union and the introduction of one currency into a group of originally 12, and now 17, countries that do not form an optimal currency area for the debt crisis. All this started with the design of the EMU which differs significantly from Robert Mundell’s and Ronald McKinnon’s criteria of an ‘Optimum Currency Area’. Optimum currency area is a geographical region in which it would maximize economic efficiency to have the entire region share a single currency. In Eurozone, there are 17 countries with different economic parameters; some may develop faster than others in the same environment where interest rate, currencies and exchange rate are the same. Therefore, it results in some countries having deficit and some getting surplus. The unequal development in Eurozone member countries requires an adjustment mechanism that smoothens out imbalances between surplus- and deficit nations (Grahl, 2011). This mechanism would do adjustment in the form of currency devaluation in deficit countries against currencies in surplus countries to reduce competition, because a fixed exchange rate automatically fixes competition between economic sectors of member-states (Conquest & Bruges Group, 2011). There are few criteria need to be ensured in order to adjust imbalances (Mundell, 1961), however, none of them get done well in the countries.

The first criteria, an union must have a less restrictive labour market. Labour in deficit nation should not be stopped from moving towards other areas with more successful industries. This inhibits unemployment to increase in deficit nation and skill labour shortage in surplus countries. However, according to record by European Central Bank, in year 2000, only 0.1% of the total EU-15 population (or 225,000 people) changed official residence between two member countries" (Heinz & Ward-Warmedinge, 2006).

Secondly, an efficient fiscal transfer mechanism must be established to balance up any asymmetric imbalances within the EU members This can be done by a strong central government with centralized taxation system which responsible for international transfers to balance up surpluses and deficits in successful and less successful regions. The fact that In the EU, only 1.24 % of its total GDP has been used for fiscal transfers (Macdougall, 1992).

Third, flexible capital and product markets are one of the concerns. Salary and prices should be flexibly and reactive to competitive market forces. However, in EU, wages in German are control politically for the benefit of German business with the Agenda 2010. German emerges as export power house among EU not because of high intensives in productivity rates but repressions against the wages. German highly competitiveness in unit labour cost compared to Spain, Italy or Greece created another imbalance in the European Monetary Union (Conquest & Bruges Group, 2011).

Finally, the degree of diversification of the member economies is positively correlated to the optimisation of currency union. Due to the fact that during recessions a region that relies on a few economic sectors can be affected more severely, this criterion needs to be ensured. Though all industrialised member states of the European Union fulfil this criterion, Greece’s economy was relatively undiversified.

The EMU is thus far from Mundell’s concept of an optimum currency union. With low labour mobility, the lack of fiscal transfers, artificial repression of German unit labour costs, inflation policies that serve the interest of surplus countries and a low degree of diversification of the Greek economy.

3.0 Effect of banking crisis

3.1 The impact of Great depressions

Impact to the world

The impact of the great depression to the world as overall effect is as mentioned in the overview that the macro-economy had suffer significant damage where farming, mining, logging sectors are faced the low demand in their productions. The effect caused many people jobless and businesses went bankrupt.

Impact to Western countries

The impact of Great Depression had hit hard on Western countries, take Europe as example, some Europe countries on that period are agrarian countries such as Yugoslavia, Hungary, Poland and Czechoslovakia which produce agriculture products for trade. When the Great Depression happened, it caused the demand of the product significantly decrease and the capital invested by some industrialize countries are withdrawn. Thus, this created unemployment to agrarian countries and also gets into financial problem. From the research of Raupach (1969) explain that, due to the Depression, the demand for the raw material and foodstuffs decreased and also the withdrawal of capital on the developed countries. Agrarian countries in Europe face a huge financial problem. The effect also caused the rising of the unemployment rate as well as the foreign trade which these countries are heavily depending on is crumble. With the great Depression on effect, it lead the domestic societies too support the neo-mercantilist policy of the Nazi’s party because of the hardship they face in foreign trade. Sooner, this event contributes to the later world war.

Impact on Asian countries

Other than western countries, some Asian countries also caught in the fire of Great Depression. For our study we took China as example. Due to the Great Depression, China’s GDP and agricultural production had fall dramatically. Besides that, the rise of the price of silver which is the currency used by China on that time due to the shortage in the region had caused the economy problem that make the agricultural price to fall. Hence, this event cause farmer had difficulty in making profit from it and thus, the Great Depression cause the decline of trade for agricultural products to foreign countries.

From the study of Wright (2007) explained few relationships between China’s economy and the Great Depression. China on that period enforced the use of gold and silver as their currency. During the Great Depression, the value of gold and silver had depreciated in the world market; therefore, it gave impact to the China’s economy. Moreover, due to the Great Depression, the demand for agricultural products had decline as well as related industries such as bean mills on the mid of 1930s.

3.2 Effect of United States subprime crisis

Impact of Subprime Mortgage Crisis to the global economy

As an overall impact, the US subprime mortgage crisis had caused the global economy to slide down. This is due to too many low rated mortgage backed securities are defaulted. Those financial institutions bought the securities took heavy losses that affect their capital adequacy. To explain this further, we adopt the situation explained in Allen & Carletti (2009) and Eichgreen, Mody, Nedeljkovic & Sarno (2012). To diversify the risk, banks repackage the housing loan into asset-backed securities and sold to other investors and financial institutions who are willing to accept it. As more and more of these kinds of securities are being introduced until certain period; the default of the housing loan happens. The situation had caused the asset price to drop significantly and huge problem are happened to those debt based financial institution in getting their return back from the securities. To overcome this problem, they had the securities to spread to all over the sectors which later caused the global financial system to breakdown because many financial institutions fall into bankrupt, took the case of Lehman Brothers as example.

Impact of Subprime Mortgage Crisis to Western Countries

The US subprime crisis has contagious effect to other western countries. Many banks in western countries foresee the worsen condition of the value of their assets which reduce their capital value. In the research of Shirai (2009), the author had explained that with the eruption of subprime crisis it show that US bank tried to reduce their US dollar securities by trading them for foreign asset securities in order to increase their foreign assets from other western countries. However, the foreign debt securities and stocks drop on the same period. This situation happened is due to the scale of decline become moderate compared with the account for loan and deposits in US. As US banks tried to increase their foreign securities, the other western countries such as UK and Europe countries tried to reduce their US dollar denominate securities, the situation had lead them to the shortage of US dollars among the banks in western countries. With this scenario happened, it cause the sharp rise of the LIBOR during that period.

Impact of Subprime Mortgage Crisis to Asian Countries

The impact of subprime crisis in Asian countries is not as serious as western countries. This is because Asian investors and banks are not exposure too much on western securities so they did not invested much in US securities products which include the mortgage securities. However, Asian countries still affect by the subprime mortgage crisis because of the failure of Lehman Brothers. Many Asian countries’ market economies suffer from the reduced of capital inflows from western countries. This situation happened because many western countries’ bank branches had to cut down their lending due to their home countries unable to financing them. This had caused the economic slowdown in Asian countries where their GDP for that period are decreased (Shirai, 2009).

3.3 Effect of European sovereign debt crisis

Euro crisis is still an ongoing financial crisis. Hence, we had lees information to determine what kind of impact it can bring to the global economy. However, we can see how the countries react toward the Euro crisis.

When the rise of crisis which is considered to start at the end of year 2009. Greece government had announced their country’s budget is in deficit which is much larger than the previous report. With this case happen. Greece had accepted two times financial assistance and under the surveillance of IMF, ECB and European Commission also known as troika. Moreover, the incident had its contagion effect to other Europe countries such as Ireland, Portugal, Italy and Spain. Later on, Ireland and Portugal also accept same financial assistance as well as under the supervision of troika. Soon, the affected countries are given a number of credit rating downgrades which caused the bonds and CDS spread widening and lower the liquidity (Bruyckere, Gerhardt, Schepens and Vennet, 2012). In the article of Vice President of European Central Bank, Vítor Constâncio, he stated that the credit rating downgraded is due to the contagion effect by Greece where the credit rating agency believed that those countries would more likely require another financing assistance. However, the story did not end as it is, sooner, due to the event. It triggered a selloff of Spain and Italy government bonds. The happen of this event is because investors fear of the same incident happen as Greece. So, they would try to reduce the exposure to the countries to minimize their losses.

Now we will take a look at other countries, from the report of Mező & Udvari (2012), the authors had stated that in the year of 2009, almost every country is experienced with the GDP decreased. However, China had growth in GDP more than 9% on that year. The reason is that China and Europe countries had been collaborate with each other since the early of 2000s. They had several agreements in the economies where is to improve the trade and investment relationship for both sides. So, during the crisis, China had agree to cooperate with European in handling the Euro crisis. China had offered the assistance to help Greece, Spain and Portugal to reduce their government gross debts. For the detail of the information how China provide assistance can refer to the Munich Personal RePec Archive – Effects of the debt crisis on the EU-China relations.

4.0 Suggestions and Recommendations

Great Depression, Subprime Mortgage Crisis, and European Sovereign-debt Crisis had caused a big impact to the world due to several reasons. Therefore, here are some recommendations to prevent or reduce these crises happen in the future.

4.1 Recommendations of Great Depression

In year 1932 presidential election, Hoover did not have a chance at reelection and Franklin Delano Roosevelt had won it. When President Roosevelt took the office, he closed all the banks and only allows them open again when they become more stable. In order to solve the unemployment and poverty of the Great Depression, President Roosevelt had created some programs that known as the New Deal. These New Deal programs are AAA (Agricultural Adjustment Administration), CCC (Civilian Conservation Corps), WPA (Works Progress Administration) and Tennessee Valley Authority (TVA).

AAA was established to help the farmers while CCC and WPA were designed to prevent the unemployment rate. In details, CCC was established (1933-1941) to carry out tasks such as plant five billion trees as windbreaks and watershed and erosion projects. People who signed up for the Corps (18 to 25 year olds and Veterans of any age) was paid 30 dollars per month for their work with 25 dollars that being paid directly to their families. The US Army was responsible in feeding, clothing, housing and medical care. For WPA, it had a different pay scale which ranged from 19 to 94 dollars per month. It involved 7% of its total estimate for the arts and around 225,000 concerts were performed. The projects under WPA consist of recording oral histories, documenting and recording folk songs and music, and the creation of actual works of art. They also formed many of the Veterans Cemeteries. Additionally, TVA was established to built dams and hydroelectric projects to manage flooding and supply electric power to the impoverished Tennessee Valley region of the South.

Banking crisis is the first problem that Roosevelt took on. His management recommends more than 15 pieces of law which were passed by congress in order to solve the crisis. Besides, the federal government provided direct relief and federally funded jobs to the poor. But, there is not everyone was support Roosevelt's New Deal. Roosevelt expanded his plans with the 1936 election after face some objection to his New Deal. He suggest the law that avoided employers from disturbing with unions, established federal pensions and unemployment insurance, and raised the tax burden of the rich to help the poor.

After the success of the New Deal programs, many people get advantages from Roosevelt's enhancements participated the Democratic Party. Actually, it is not sure that how much was the Roosevelt's New Deal programs had helped to end the Great Depression. Apparently, the New Deal programs had relief the hardships of the Great Depression especially the Tennessee Valley Authority (TVA) program. However, the U.S. economy was still very terrible by the end of the 1930s.

Recommendations of Subprime Mortgage Crisis

The subprime mortgage crisis requires responses to the massive unaffordable mortgage payments, stresses in overall financial system caused by huge losses on mortgage-backed investment, and credit practices surrounding the granting of mortgages. In our assignment, there are several recommendations that were suggested to the subprime mortgage crisis.

First of all, subprime crisis has been the result of individual incentives and the lack of accountability which has caused the present dilemma (Chandran, 2008). Therefore, a greater accountability in the form of stricter norms against the lenders that should be applied as the disaster can be curtailed at the first link of the chain.

Currently, both traditional and structured credit products are graded at the same way. In fact, the analysis of structured credit products was often based on models with faulty assumptions, for instance the continuously rising of house prices, and seriously underestimated of the actual risk. As the model and assumptions used to evaluate structured credit products are not disclosed, investors are unable to evaluate properly both the securities and the rating given.

In response, John (2008) suggested that credit rating agencies should make their processes more transparent. For example, publish the sufficient information about the assumptions that underlying their credit rating models and methodologies, as well as clearly differentiate the rating given to complex products from those given to traditional instruments. Moreover, a formal and periodic review of those assumptions and rating are encouraged to imply. This would indicate whether the actual mortgages were credit-worthy and properly originated in the case of mortgage-backed securities.

In addition, mortgages were made to home purchasers who normally would not qualify for them and were presented as being of much higher quality than they actually were. Therefore, credit standards were relaxed for most classes of loans as homebuyers found themselves in mortgages that were inappropriate for their financial circumstances, and underwriters of securities backed by mortgage who purchased mortgages that were excess risky than they seemed.

To solve this problem, John (2008) recommended better underwriting standards by originators of mortgages. A key recommendation included state licensing of mortgage brokers who are willing to accept a stringent supervision and regulations. This will indeed improve the quality of mortgages that those brokers create. Relatively, in order to improve existing regulation rather than launch a new layer, an oversight of all mortgage originators should be more consistent, limit by certain minimum standards, and embrace an effective enforcement mechanism (John, 2008).

Finally, one of the more disturbing revelations of the subprime crisis is that major financial institutions are unable to estimate their actual exposure to losses resulting from mortgage-backed securities accurately. Thus, central bank should take rapid steps to require firms in improving their risk management practices and regulations. And firms should be required to establish or meet liquidity and capital standards that are sufficiently stringent to enable the firms to survive even in times of severe systemic stress.

In nutshell, religion and international financial regulations effort to improve their capital standards and regulation. Such improvements would enable investors in better evaluating the true condition of financial institutions and give regulators a better understanding of the risk that a particular institution could pose to the financial system.

Recommendations of European Sovereign-debt Crisis

Bruyckere et al. (2012) motivated the recommendation that put public finances on a sustainable track are a necessary ingredient, especially in the countries with high debt levels. That means, a credible commitment to reduce debt levels over time may probably require efforts at the domestic level, and enforceable coordination at the European level as well as some form of debt consolidation.

In terms of policy implications, Bruyckere et al. (2012) also made several suggestions to alleviate the contagion between bank and sovereign risk. That is, the ambition of policymakers and supervisors should be to make banks more robust, make public finances more resilient and weaken the bank and sovereign link, aim to decrease the probability of contagion and decrease the intensity of the risk spillovers when contagion occurs.

On the bank side, the degree of capital adequacy should be turns out to be more crucial. In addition, bank should be restricted stringently in their reliance on money market funding. On the sovereign side, making public finances more sustainable and ensuring that resolution mechanisms are in place to deal with distressed banks are important policy objectives. Finally, Bruyckere et al. (2012) has made an evidence that not only bank supervision and recapitalization mechanisms should be executed at the designed level through the European Stability Mechanism, but also those deposit insurance and bank resolution, as well as the associated burden sharing arrangements have to implemented on a European scale.

As Great Depression, Subprime Mortgage Crisis, and European Sovereign-debt Crisis as the examples, we found out that those counterparties who involved in banking crisis have the same inventive structures that they misallocated capital and mismanaged risk. They only did what their incentive structures were designed to focus on short-term profits and create excessive risk. In such circumstances, this is not the first time that those who believe in free and unregulated markets have come running to the government for bailouts. Hence, Stiglitz (2008) has suggested a variety solutions for the deep systemic problems as bellow:

Financial institutions should correct incentives for executives, reduce the scope for conflicts of interest and improve shareholder knowledge about the dilution in share value as a result of stock options. Those counterparties should mitigate the incentives for taking excessive risk and short-term focus that has so long prevailed.

Create a financial product safety commission, in order to ensure that products bought and sold by financial institutions are safe for "human consumption".

Create a financial systems stability commission to take an overview of the entire financial system, recognize the interrelations among the various parts, and to prevent the excessive systemic leveraging that have just experienced.

Impose other regulations to improve the safety and soundness of financial system.

Issue stronger consumer protection laws that prevent predatory lending.

Launch a better competition laws. This is because the absence of competition made the result that financial institutions have been able to prey on consumers through credit cards partly.

These suggestions will not ensure that we will not have another banking crisis in future, but will make it less severe than it otherwise would be.

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