Table of Contents
1.2 History in a nutshel
1.3 Aftermath in numbers
2.1 Finance Industry in raw facts
2.2 Regulation of the Financial Markets
2.3 Lobbying in the USA and Europe
3 In-depth Analysis and Measuremen
3.1 Subprime Loans - Regulatory Failure
3.2 The Banks shift of focus
3.3 The U.S Dollar as a vehicle to chaos
3.3.1 Fiat Money
3.3.2 Zero interest policy
3.4 Aggregation of markets, its effect on the Sharpe Ratio and portfolios
3.5 The necessity of continuous growth through interes
3.6 Save yourself through saving?
4 Conclusions and Projections
4.1 Collapse of the system.
4.2 Rebalancing through neutralization
4.3 Nationalizing the Banks
5 List of Literature
5.1 Internet Sources
Rarely an incident echoed this vastly in economic-books, reports, articles and also theses. The Financial Crisis of 2008 has been broadcasted, propagated and also radiated like fear. As media itself has not the actual goal of being scientific, a lot of information has been compromised by entities, which have the incentive to manipulate.
Therefore with this entire overshare a prudent selection is essential to maintain the standards of science. Ratiocinative a definition of science itself is required.
1 “Observation and description of a phenomenon or group of phenomena.”
2 “Formulation of a hypothesis to explain the phenomena. In physics, the hypothesis often takes the form of a causal mechanism or a mathematical relation.”
3 “Use of the hypothesis to predict the existence of other phenomena, or to predict quantitatively the results of new observations.”
4 “Performance of experimental tests of the predictions by several independent experimenters and properly performed experiments.”
Antithetic to these principles the media is defined as channels of communication that provide various functions, for instance entertainment in a mass or specialized way or(and) information about mostly actual topics, while profiting through advertising products, services or even politics – a precarious mixture!
As a result of the difference between the methods of media and science it is out of the question that single reports for example reveal the “whole truth”. As an incidental remark those products of the media can be seen as myths – this is to the mere fact that there mostly lies a grain of truth beneath.
However, as there are no contradictions in certain aspects of the “stories”, those records share common characteristics, which nevertheless have to be analyzed and reevaluated in their respective spheres. It is irremissible to check figures, reconcile accounts or just to collate two texts etc. Simply put a double check is not sufficient. Last-mentioned has to be the trend of shifting between the imaginary line of science and media, which should actually be avoided in the first place.
The purpose of this thesis is to provide a solid overview about finance markets, their structure, their mechanisms, their political environment and a profound knowledge of carefully selected aspects of the background of correlations and connections.
Society and culture as variables to the equation are too massive to be covered in a more detailed way, for that reason logical and mathematical explanations are the main tools to specify the different failing mechanisms, conditions and results.
Basic knowledge of the economic terms is a prerequisite to understand diverse issues, whereby some facets will be redefined out of the “folk wisdom”, which has been altered to a more favorable attitude to the finance system itself, as far as trust is gained or lost in the credit system.
1.2 History in a nutshell
The Financial Crisis of 2008 is rumored to have developed out of the U.S. home loans market, which is only partially true, since the model of cause and effect is regularly ignored either on purpose or by accident. Later on, it will be stated why different aspects of the finance itself are the underlying causes of the crisis.
In the nowadays interconnected financial system the bubble of the U.S housing market has burst not only locally but globally as investors all over the world could contribute their capital into this market virtually without limitations, therefore the first part in those long finance chains were normal U.S consumers, which have been granted a loan for buying a house in exchange of accepting a mortgage, while savings or a proper financial standing was not mandatory.
Additionally, a refinance system was rolling through the United States of America as well, where house owners, who already had a house without debt, were encouraged to take credit with their house as a security. The boom of the housing market had its source in a policy of the Bush Administration, which aimed at the unreachable goal of “a house for every American citizen”.
As long as the growth in worth real estates remained, everyone seemed to profit in a way until the great collapse occurred. A great call to ARM´s happened, promoted by Alan Greenspan, which vaporized the worth of the market, as the percentage in the U.S market was nearly 30 percent. ARM is an adjustable-rate mortgage which is commonly quite low in the beginning as a sort of an inducement for two or three years and is then steadily increased (yet not as predatory as subprime loans). A general change of mind regarding a preference of short term profits to long term profits and an aggressive maximization concept are the reasons for that mechanism. On August 9th2007 the Federal Reserve and the European Central Bank were forced to step in when the interbank sector crumbled. The Federal Funds interest rate stayed at 5.25% from June 2006 until this crash. It has to be mentioned that already in late 2005 home prices were falling after the peak of 70% homeownership in 2004 and nevertheless the course stayed the same.
Various big financial institutions disintegrated in their previous form, like Fanny May and Freddie Mac, two giants of the mortgage-lender-companies, which had to be rescued by the Government of U.S.A; Bear & Stearns, an investment bank; Lehman Brothers, an investment bank which has been shattered to the bones, and finally AIG, the world´s greatest insurance provider, which was bailed out and still the stakes for failing hazardous CDO´s (Collateralized debt obligation) by different enormous companies, as an example Goldman Sachs, were paid out.
It has been proven that Goldman Sachs and other corporations have specifically designed those to fail while at the same time they sold it to costumers as “triple A” when in reality it was junk and was insured at AIG against break down.
Last but not least the credit rating agencies or CRA were the nail in the coffin. Standard & Poor´s, Moody´s Investors Service and Fitch Group were and are the three biggest corporations of these kind and all of them are U.S American.
For one point they tend to favor U.S American assets and firms that are paying them for a rating of their assets. If this conflict of interest would not be enough, the sheer amounts of ratings are not granted by a simple time calculation where the outcome would be less than a second per asset on average.
Furthermore even days before various firms or even countries financially crashed the rating still was AAA or at least AA (“only the second highest”). After all, the Financial Crisis was more a state of mistrust and erratic behavior by the banks. Due to the complexity of the different situations this content had to be shaped.
1.3 Aftermath in numbers
The Fed, the U.S. Treasury and other federal institutions have spent, lent or guaranteed a sum of 7,400,000,000,000 U.S Dollars (7.4 trillion U.S Dollars) which equals roughly half of the U.S. GDP (estimation by Bloomberg November 2008).
At the begin of September 2009 the Federal Reserve held a potpourris of assets worth 2,107 billion in U.S. Dollars where mortgage based securities and direct loans to AIG and banks were included.
As stated before it is indeed impossible to quickly overview all of the different aspects of the sophisticated economic and financial mechanisms thus it is a necessity to analyze and define the environment, as well as the surroundings before an approach of in-depth knowledge.
2.1 Finance Industry in raw facts
The synopsis of the financial system cannot actually be expressed only in mere numbers, but with a correspondent addendum an overall view can be perceived.
There are several types of financial markets, such as the securities market, the commodity markets, the currency markets and the property markets. The most significant are the securities markets which are further divided into capital markets (with the equity and debt markets), the money markets and the derivatives markets.
Highly mediatized events, such as the enormous acknowledged losses of institutions like Société Générale, adduced frauds by SEC at Stanford International Bank (worth of USD 8 billion), the even bigger fraud connected to Bernard Madoff (USD 65 billion in value) and the USD 1 billion missing at the outsourcing company Satyam, all reflect failures in the financial system. However, these reports work as an instrument to restore people’s confidence in the financial sector, proving that there are some agents acting in the common person’s interest.
In the process of “rehabilitation” of the system the focus was set on making the financial transactions more transparent for better interpretation of available information and creating better saving and investing opportunities. For that matter, audits have proven to be useful tools against fraud and misleading financial statements. Nevertheless, even though the requirements for providing reliable audits have been strengthened (as a result of the Enron scandal), they still face some issues, as auditors are paid by businesses, so an absolute objectivity from their side is ruled out.
 http://teacher.nsrl.rochester.edu/phy_labs/AppendixE/AppendixE.html Frank Wolf (last accessed on 16.9.2012)
 This method is called asset backed security
 USA Today(February 23, 2004)
 Dewatripont, Rochet,Tirole “Balancing the Banks – Global Lessons from the Financial Crisis” (2010) Chapter 2
 http://dealbook.nytimes.com/2010/04/28/the-goldman-e-mails-or-how-to-sell-junk/ (last accessed on 16.9.2012) =>just one example , numerous sources
 Dewatripont, Rochet,Tirole “Balancing the Banks – Global Lessons from the Financial Crisis” (2010) Chapter 2 Pg 11
 OECD “The Financial Crisis – Reform and Exit Strategies” (2009) Pg 36
 OECD “The Financial Crisis – Reform and Exit Strategies” (2009) Pg 37-38