The Impact of the Present Financial Crisis on the General Environmental Factors of International Business, Its Causes and Ramifications

Topics: Subprime mortgage crisis, Subprime lending, Financial crisis Pages: 5 (1764 words) Published: February 8, 2011

“The impact of the present financial crisis on the general environmental factors of international business, its causes and ramifications”

The world wide financial crisis has been identified to have several different causes, with the problems originating from the US causing shockwaves around the World, sending the World economy into a crisis. The impact of the financial crisis has been dramatic to the general business environment due to the increased uncertainty and risk that investments at this time bring with them and the failure of central financial institutions. The crisis has left many economies, businesses and people in the world in trouble and fighting for their existence. Stock markets are down by more than 40% from a year ago, with immense losses for everyone involved, including workers who are being let go. Many investment banks have collapsed, with more in trouble and in need of rescue packages that the governments have started putting together. These rescue packages, aimed at helping out companies in trouble, total over 1 trillion Euros but are linked with strong guidelines which the companies have to follow. Many leading economies around the World have cut their interest rates in order to stimulate the economy and force off the nearly inevitable World-wide recession. But what were the causes for this world-wide crisis?

Origins of the Financial Crisis:

The financial crisis was caused by many factors but it is widely understood that the financial crisis started with the Subprime Mortgage Crisis in the US in the summer of 2007. Americans could no longer afford their adjustable rate mortgages due to a shortage of new lines of credit. This caused loan defaults and foreclosures with many people losing their homes. This houses were nearly all over-priced due to the ‘housing bubble’ in the US. These loans were usually repackaged and sold as low-risk investments to banks and financial investors. These became sources of capital for for many investment banks and brokerage firms, who then sold them again to investors. The crisis took its start as big companies such as Lehman Brothers, Merrill Lynch and AIG were not able to find buyer for these repackaged sub-prime loans and were therefore unable to offload their debts. The companies were left holding mortgage backed assets which had dramatically depreciated in value and were not bringing in enough money to pay for their debts. They did not have any money left and ended up even using up their cash reserves. This left them in a position where they were unable to make new loans, as their credit had dried up. This caused a shortage of new lines of credit, which stopped the money flow and slowed down the economic growth. The money used for buying and selling different assets was all of a sudden not there anymore. These companies in an effort to raise capital for investment started leveraging funds, further increasing the impact of the following crisis. Companies such as Lehman Brothers and Freddie Mac leveraged money in order to buy and resell stocks, securities and other investments to make fast profits. This line of action failed as all of a sudden they were left in a position where they were unable to resell their investments. This in turn then created a problem with the Credit Default Swap market. CDS’s are basically insurance contracts covering losses on debt defaults on municipal bonds, corporated debt and other securities which anybody can buy. Due to a lack of regulation they can easily be traded and this caused a problem. The holders of these contracts and their ability to pay off the debt was not clear due to the easy swapping of contracts which was very common. A contract could well change ownership 20 times with no record of this being kept. Commercial Banks were the main holders of these contracts and the subprime market collapse dealt a considerable blow to them. AIG (one of the biggest insurers) alongside many others...

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