1. The Great Recession Causes & Prospects

2. What is the “Great Recession?”
Decline of speculative markets in 2007
Bursting of the real estate bubble
Decline in credit, even with cheap money
Decline in circulating money
Drop in production & job losses
High unemployment
Low growth & growing government debts
As Morris argues, the stage was set long ago

3. Let’s go back to the beginning
Consumption in the U.S. has been subsidized by low-cost imports from China
Wages had more buying power & hardly grew
After dot.com crash in 2000, Fed lowered interest rates
This made money cheap
Cheap money seeks to earn high returns
Real estate looked good

4. So, where did this cheap money come from?
Equity pulled out of houses financed consumption
Consumers bought low-cost goods from China
Dollars flowing to China used to buy Treasury bonds
This is a “loan” to the U.S. at low interest rates
Allowed U.S. to continue to consume Chinese goods
Also permitted tax cuts & high military spending
China grew, as did it dollar holdings

5. This shows how the money circulates in “Chimerica”

6. Economy grows via increases in consumption of goods & services
Stagnant wages posed a problem for growth
Real estate became focus of investment & cheap money
Low interest rates & high growth in housing prices
Homeowners could take out cheap equity loans to consume
Speculators could realize high returns from flipping houses
Both real & speculative economies were juiced

7. Mortgages used to be held by lenders
Home buyer went to bank to borrow funds
Bank held a lien on the house to secure loan
Mortgage owned by bank
But bank can only loan out 10x its deposits
If it can sell mortgage, it gets new money to loan
And it can further leverage its assets

8. When money is cheap, highly-secure mortgages don’t return much (4-5%)
But they can return more if they are high-risk
Sub-prime mortgages
Lenders can borrow low and sell high (8-10%)
To mitigate risk, they bundle them with low-risk mortgages
These packages are sold to investors as CDOs
“Collateralized Debt Obligations”

9. This is how a CDO works…

10. So investors, speculators, pension funds, hedge funds, banks, etc
So investors, speculators, pension funds, hedge funds, banks, etc. bought CDOs
The market in CDOs took off and their prices rose
Value is linked both to interest paid and price of CDO
Each CDO is made of layers of low- & high risk mortgages
Combined return can be high
But what happens if the high risk mortgages go bad?
No one wants to buy them—so their “real” value is uncertain
If there is no market, there is no price
As assets, CDOs suddenly become worthless
Banks don’t know how much money they have

11. The Great Recession is the result of a sudden collapse in the global money supply
The “real” economy was supported by cheap money
Speculative economy took up excess money supply
Inflation & interest rates were low
When securities markets froze up, paper had no clear value
This made financial actors insolvent
Money stopped moving

12. What happens next? Speculators continue to look for places to invest
Investment in such markets does not create jobs
Governments (UK) seek ways to reduce budget deficits
They lay off large numbers of employees
Consumption & wages are stagnant, so little growth
Prices could begin to decline: deflation
Even less consumer spending
What is to be done?