tailieunhanh - Lecture Economics: Chapter 33 - Dean Karlan, Jonathan Morduch

Chapter 33 - Financial crisis. After studying this chapter you will be able to understand: What role irrational expectations and leverage play in financial crises? What role mortgage-backed securities and tranching played in the rise of subprime lending? How to analyze the factors that lead to the housing bubble and increased household debt?. | Chapter 33 Financial Crisis © 2014 by McGraw-Hill Education 1 What will you learn in this chapter? • What role irrational expectations and leverage play in financial crises. • What role mortgage-backed securities and tranching played in the rise of subprime lending. • How to analyze the factors that lead to the housing bubble and increased household debt. • How the housing bubble collapse created a credit crisis and drop in output. • What tools are used to stimulate the economy when interest rates hit the zero lower bound. © 2014 by McGraw-Hill Education 2 The origins of financial crises • Two interconnected concepts lie at the heart of many financial crises. 1. Irrational expectations: The price of an asset can become so inflated that it is unclear why it should be so valuable. – Herd instinct may push investors to buy because everyone else is. – Recency effect is a cognitive bias that causes humans to overvalue recent experience when trying to predict the future. 2. Leverage: The practice of using borrowed money to pay for investments. – This allows people to make investments that are larger than the amount they own. – Leverage is not necessarily dangerous, so long as it is limited and investors understand the risks well. © 2014 by McGraw-Hill Education 3 1 Active Learning: Determining Irrationality Determine whether or not each of the following scenarios is an example of irrational expectations. 1. A CEO proclaims that the company will indefinitely remain profitable, similar to the last five years. 2. The SEC cracks down on an investment bank’s fraudulent trading. The bank’s stock falls 15%. 3. Given a mild winter, the prices of snow shovels is lower. © 2014 by McGraw-Hill Education 4 The South Seas Bubble • The South Seas Company participated in the London’s Exchange Alley in the 1600s. • The price of the company’s stock jumped significantly after it was granted a government trade monopoly between England and South America. – It was never clear how