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An overview of the crisis and its impacts
The 2008 global recession hit hard at many developed economies, of which, the United Kingdom is included (United Nations, 2009, p.39). Primarily, there was noticeable instability that diffused in a multiple sectors such as housing, banking, financial markets and then into all the other sectors.
The crisis did not only surge into developed countries, but also broke through their boundaries getting into developing nations, where the long term economic progress in those nations was greatly interrupted. Given that majority of the poor people were from developing countries, their economic stability is likely to be greatly affected incase of such a global credit crunch.
One of the effects will be a decline in exports due to a decelerating economic pace at this period. Secondly, since the fall in export trade was expected to be higher in advanced economies compared to developing economies, the latter’s terms of trade are likely to drop incase of a crisis especially due to a decline in non – oil exports (Lin, 2008, p.7).
Thirdly, due to a drop in the number of external sources of finance for investment, the level of investment in many economies faced a major decline during this period. A slackening in labor markets caused most employees to either lose their jobs or have adverse cut on their earnings. Declining house prices, debt and house repossessions were some of the impacts in the United Kingdom (Springett and Ledwith, 2009, p.52).
An investment rush was already in place five years before the crisis in most of these economies. A decline in investment funding made most of these projects to be incomplete, leading to the inability of banks to recover loans.
On the other hand, completion of these projects resulted to overproduction due to global slowdown hence leading to deflation. A collection of all these aspects led to decline in the Gross Domestic Product of most developing countries (Lin, 2008, p.8).
It is on the basis of these negative effects of the global recession that the group of twenty countries (G-20) met in the United Kingdom to come up with new macroeconomic policy mechanisms in response to the recession.
The first macroeconomic policy established by UK was international coordination (IMF staff, 2009. p. 12). At first, it was inadequate, but as the recession aggravated, many attempts were made to enhance enlightenment and cooperation.
Even though the advantages are acknowledged, internal difficulties have occasionally superceded over the attempts of such coordination. As the crisis subside and the demand for unusual defensive measures reduce, the demand for international policy measures may rise as the United Kingdom start unrolling crises control policies.
Two main hurdles emerge, one of them being that the domestic cooperation between government agencies in the devising and implementation of unwinding policies may be buttressed. Two, systems for organization in the United Kingdom must be stepped up so that geocentricism does not choke the attempts of normalizing the global economic set up.
International decision making bodies like the International Monetary Fund could implement such efforts in enhancing both shared enlightenment and cooperation between the United Kingdom and other nations (Truman, 2009, p.5). The effectives and credibility of this policy can be enhanced through efficient communication of the policy objectives by the United Kingdom authorities.
This will go a long way into directing personal anticipations elucidating changes to be adjusted in line with policy making. The current move by Britain to allow foreign investment within its boundaries is perhaps a move to implement this policy (The Economist, 2010)
The second policy involves diagnosis. Just like other countries, the United Kingdom is using diverse mechanisms to diagnose the situation surrounding its financial set up. This entails an appraisal of the potency of the main borrowers, an evaluation of the credibility of the banks’ business models and the projection for medium term benefits in the upcoming economic actuality emanating from the recession.
Instead, the United Kingdom has depended on the stress tests to assess the type and size of risks that can destabilize its financial set ups (Wilkinson, Spong and Christenson, 2009, p. 51). This has led to non – public announcement of its actions.
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During the first quarter of 2009, the United Kingdom carried out stress tests on main banks. Although the results were not made public, they were used to ascertain role playing in Asset protection Scheme (IMF staff, 2009. p.13). Following the use of stress tests in the United Kingdom, other countries emulated the same move.
Stress tests may not effectively evaluate the medium – term strength of a financial organization. Response to shocks, though an imperative element in such an assessment, leaves out vital components such as the ability of main borrowers, the feasibility of the business representation and the aggressive level of the firm.
Secondly, stress tests alone are not enough and should be combined with well established emergency funding strategies (The European Department, 2008, p. 27). For these reasons, the United Kingdom may deem fit applying another approach for evaluating the medium – term capability of its financial organizations.
Like other developing economies, the United Kingdom chose not to publish the outcome of the stress tests conducted on its banks. This is based on fears that if reasonable but stern stresses are used, these indicators may be interpreted as economic anticipations.
Making the results public could however deteriorate trust in the economy. Additionally, concerns about market responses may cause the nation to under evaluate the weaknesses of its financial institutions.
The third macroeconomic policy that UK initiated was creditor guarantees. There was an increased insurance deposit amount which was aimed at raising compensation covers. In most cases, the government also introduced blanket debt guarantees. This minimized fears concerning counterparty risk, enhancing accessibility to market funding. United Kingdom was applied this program on a large scale.
The guarantee policy was very effective in improving market entrance. General bond issuance rose during the first three months of 2009 in the United Kingdom.
By guaranteeing creditors about the willingness of the government to boost the financial mechanisms, general trust began coming back during early 2009. Consequently, there was an increase in remittance of non-guaranteed debts, indicating increased admittance to market financing.
Fourthly, there was capital support from the government. The amount of government capital injection was higher before the second quarter of 2009 than it was before this time (Lambek and Amtil, 2009, p.24). This was perhaps meant to offset the economic imbalances that had been caused by the 2007 recession (Xiao, 2009. p. 6).
With respect to the establishment of the bank stabilization programme, the United Kingdom government committed itself to the release of three emergency packages that included payments towards those who had been unemployed and tax exemptions on house sales (The Economist, 2008). The reduced public spending for recapitalization may not be maintained.
The Stress tests may bring out other unrecognized deficiencies that ought to be dealt with. Additionally, two occurrences could raise the demand for capital support. One, the global economic distress while appearing to be subsiding could lead to banks registering more Non-performing Loans.
Two, latest changes in accounting that restrict a market-to-market requirement could recur, bringing about the aspect of asset price instability and the need for buttressing capital shields. Incase the private markets cannot be able to raise such capital requirements, and then use of public resources may then be employed.
Management of distressed assets
There was the asset management policy where distressed assets were handled in two different ways. Whereas some of the assets held in the financial books were guaranteed, others were removed. With respect to guarantees, the United Kingdom launched a program to handle this (IMF staff, 2009, p.18). Although the program is closed, the final transactions with two of its banks are in a limbo.
During the first quarter of 2009, the United Kingdom devised mechanisms of dealing with distressed assets. The mechanism did not entail removing the assets from the balance sheet like was the case of the United States, but it rather involved cushion against losses on various groups of assets above a certain brink.
Although guaranteeing assets provides sufficient time to restructure distressed property, it may not necessarily be the best alternative of restoring confidence in the financial institutions. Guarantees are only effective if there are anticipations that the value of the asset will be restored.
Such guarantees may enable financial institutions that are closer to their borrowers to restructure assets. Additionally, if the bank is able to access the advantages of risk transfer via guarantees, then inducement to do away with the assets may decline. However, there may also be circumstances under which guarantees may not be efficient thus calling for fresh attempts to get off distressed assets from the banks’ transactions.
One of the reasons as to why removal of assets has not been stressed is that accounting regulations have restricted price unpredictability emanating from market-to-market asset prices.
Another reason to continue applying asset removal mechanisms is that some assets especially those that are complex in nature may not be easy to resolve and for that matter, may overstay in the bank records making it difficult for banks to continue registering profits.
Thirdly, acuity of bank soundness could be encouraged by removal of assets hence formalizing the true value of losses to see to it that those losses that are problematic are dealt with. Moreover, removal of these assets will make it easy for banks to focus on their future activities without having to deal with such problematic property (Ait-Sahalia, et al, 2009, p.9).
Interest rate cuts were coordinated by central banks during the time of global crisis. This was done to a larger extent than had been done before. This had the biggest impact in comparison to other types of economic policies put in place to respond to global recession (IMF working paper, 2009, p.17).
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