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The Financial Crisis Of 2007

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3.1 Background information In the words of Goodhart (2008), “the banking crisis of 2007 was seen in advance” (Goodhart, 2008). This is a result of many different factors. To begin with, between 2001 and 2005, there were very low interest rates, particularly in China due to the Asian crisis of the late 1990s. Because of this financial crisis, many people across Asia were saving instead of investing their money. In order to encourage people to invest in the economy, the interest rates had to plummet to make spending more affordable. Economies exist by trading with one another and if one economy isn 't doing so well, this effects economies worldwide and the USA began to worry about price deflation. During this period, developed countries…show more content…
Professionals say the short-term rates were too low, pulling longer-term mortgage rates down with them, Federals blame the savings glut in China. Putting aside who is to blame, the fact remains that low interest rates were incentives for banks and hedge funds to seek riskier assets that offered higher returns. As a result of the lower interest rates in America, the house market turned and pooling and financial engineering backfired. This caused mortgage-backed securities to slump in value and as a result, it became difficult to sell assets at any price or use them for short-term funding (The Economist, 2013). 3.3 Impact on Northern Rock Northern Rock used the prioritisation of mortgages to make a profit. January 2007 saw a £627m profit (The Economist, 2007) and they quickly grew to own nearly 19% of the British mortgage market (Reed, 2007), however their heavy reliance on wholesale funding made them vulnerable and the increased interest rates led to a slip in share prices. Knowing this, Northern Rock still increased the dividend to its shareholders, although they were running dangerously low on cash. This meant that they were promising returns that they didn 't have the money to pay out. The directors of Northern Rock approached the Bank of England who said it would be better to put the business up for sale, however, there were no investors to buy it so the Central Bank had to offer emergency
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