Financial Crisis


The matter that I would like to discuss here concerns the present financial meltdown. Let us start off with a short summary on the cause of the financial crisis. In August 2002, a macroeconomist discovered a housing bubble. Dean Baker noted that the prices of houses from 1995 had a significant increase above inflation-based increases. His claim was supported by a research conducted by Robert Shiller, an economist at Yale University.

At the same time, financial corporations like Fannie Mae were increasing mortgage loans, even making credit requirements easier on loans bought from lenders. Moreover, due to the low interest rates, investors and banks borrowed large amounts of money that they could only return if house prices did not drop. Unfortunately, the building boom caused the supply of houses to increase tremendously, leading to a fall in prices. As a result, people who made an investment in their houses did not have the ability to return their loans and financial corporations realised they did not have enough funds. The collapse of several financial corporations ensued, such as Lehman Brothers and Bear Stearns, and takeovers, like those of Fannie Mae and Freddie Mac. International trade plunged, and goods, currency values and stock markets became volatile. Hence, the global economy went into a financial crisis.

At this point, I would like to address an idea that has been bothering me: Why many senior managers such as the those of failed financial corporations like AIG, Bear Stearns, Lehman Brothers, Fannie Mae and Freddie Mac did not respond to the warnings of investors and economists like Warren Buffet and Dean Baker, about the trouble financial corporations were entering and the prediction of a resulting financial crisis. These managers continued over-leveraging, increasing risky mortgage loans, opposing mark-to-market accounting regulation, laws on credit default swaps, greater transparency for hedge funds, and insisting that mortgage bankers obtain financial statements before granting mortgages. Why didn’t any manager speak up to propose that the financial corporations stop their practices and rescue the system? Was it really because they did not expect the financial system to collapse?

The testimony of Lehman CEO Richard Fuld at Capitol Hill gives us some clue. On 7 October 2008, the Washington Post reported that Fuld admitted to no mistakes during his testimony. Instead, he blamed investors for his bank’s collapse. The action of pushing blame to others suggests that Fuld wanted to take no responsibility for the failure of Lehman Brothers.

In addition, news has spread concerning the large payouts the senior managers of failed financial corporations such as AIG CEO Martin Sullivan, Freddie Mac CEO Richard Syron and Lehman CEO Richard Fuld have received even though their financial corporations were not performing well. This makes one suspicious of the motivations of these managers – did they really have the full interests of their financial corporations at heart?

Thus, the claim that the senior managers of failed financial corporations did not believe the financial system could collapse is weak. That the senior managers of these financial corporations were not motivated by the performance of their financial corporations, but by other factors, such as opportunistic behaviour and greed would be a stronger argument. They were satisfied as long as they received their salary and had no issues with the stakeholders.

This argument would also more or less answer why no senior manager spoke up to persuade the financial corporations to halt bad practices and rescue the financial system. Even so, why then, did nobody from the other financial corporations do so? Being a third party observing the situation, it would be near impossible to ascertain the cause of their failure to do so. On the other hand, I have some suggestions:

1) They had similar motivations to the senior managers of failed financial corporations, only that their financial corporations have yet to collapse. 2) They only cared about the performance of their own corporations, and not the financial system as a whole. 3) They believe their authorities were restricted only to within their own financial corporations and did not feel they had the ability to put an end to the lousy financial practices across the financial system.

Either way, the reason that nobody came out to rescue the financial system suggests that there was very little real leadership in the top management levels of the financial corporations. They were either greedy , selfish, or simply lacked confidence. As such, this allows me to come to a conclusion that the scarcity of leadership from the senior managers of the financial corporations was the basic reason why nobody came out to prevent the financial crisis even with investors’ and analysts’ repeated reminders of the poor financial practices in the financial corporations and the resulting financial crisis. This brings me to another question: How did the senior managers of financial corporations rise to their positions if they were not good leaders?

After pondering for awhile, I reasoned that this was either because they had strong networks, they were great bootlickers, or that senior management positions simply were not the same as leadership positions. However, it is again not possible to prove whether the senior managers had strong networks or extra-ordinary bootlicking skills. On the other hand, the reason of senior management positions not equating to leadership positions is worth pondering.

I thought up some differences between leaders and managers. To begin, managers want to continue the stability of the current climate while leaders want to improve through change. Also, managers have short-term horizons compared to leaders, whose horizons are longer-term. While managers are mainly reactive to situations, leaders are proactive. Furthermore, managers do not like taking blame, while leaders do not mind doing so. As such, the reason why the senior managers of financial corporations lacked leadership and did not have the ability to change the financial climate in the face of a resulting financial meltdown was most likely because they were merely managers and not leaders.

Thanks for visiting my site on the current Financial Crisis.

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Andy Lee

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