Transcript Sweden - Randal C. Picker

SWEDEN IN CRISIS
a drama in four acts
brian darsow | saloni kantaria | thomas haley | cathy hwang
2
Swedish Financial Crisis
CLIMATE
CRISIS!
TRIGGERS
LESSONS
CLIMATE
The Good Old Days
• Managed Great
Depression with ease
• Post-WWII Plan: Large,
centralized institutions to
achieve benefits from
economies of scale
– Result: few large
institutions that
received government
support.
– 1980s: 7 Swedish
banks = over 90% of
Swedish banking
The Twin Crises:
Banking and Currency
• MAJOR FACTORS:
– Deregulation of
Banking Industry
in 1985
– Collapse of
Bretton Woods
international
currency system
in 1971
• Sweden attempts
to maintain fixed
currency
exchange regime
until 1992
Deregulation in 1985
• Pre 1985: Banks
required to have
25% of assets in
bonds.
• 1985: Regulations
dropped.
Result: Financial
supervisory authority
couldn’t deal with the
new market conditions
Monetary Policy
• 1970s: High inflation
rates maybe
undermined economic
expansion.
• 1980s: Expansionist
monetary policy,
increased money
supply
–
–
–
–
Lowers inflation rates
Increases borrowing
Increases inflation
(Banking deregulation
also leads to increases
in money supply.)
Political Factors
• Tax schedules
made borrowing
attractive.
• Political pressure
encouraged
banks to hold
mortgages
originating from
government
housing programs
The Late 1980s
• 1985-1990: Real
estate prices
more than double
• Banks hold much
short-term foreigndenominated
debt
• Low interest rates
and high inflation
Putting on the Brakes
• 1989: Government
noticed things were
moving too fast.
– Too much shifting in the
markets
– Too much foreign money
made Sweden more
prone to outside shocks
– Gov’t tries to reign in
securities trading and
housing through new
taxes on financial
transactions
Increase in
interest
rates
Financial Crisis!
Nyckeln
(“The
Key”)
folded
Fixed
exchange
rate
abandoned
Reduced
demand
for Real
Estate
13
Interest Rates Increase
1. German reunification
 Bundesbank raised
German interest rates
 European interest
rates rise.
2. Domestic
macroeconomic
policies (inflation)
3. Tax reform in 1991
(savings)
14
Reduced Demand For Real
Estate
15
Real Estate Data
• 1988-1990:
Investment in real
estate - average 88%
above 1983-1985
• Autumn 1989: First
indications that
commercial property
market reaching
peak
• Late 1990: Real
estate index fell 52%
from peak
Fixed Exchange Rate
Abandoned
• September 1992:
European currency
unrest
• Swedish government
abandoned fixed
exchange rate
• Considerable
depreciation of
Sweden’s currency
• Result: Many private
sector loans become
non-performing
Folding of Nyckeln
• Fast-growing Swedish
financial firm
• Financed by several
Swedish banks
• Rapid growth by
specializing in
commercial real estate
financing
• New commercial paper
• Default left two Swedish
banks unable to meet
capital regulatory
requirements
CRISIS!
How Bad Did It Get?
• GDP down 6%
• Unemployment
up 9%
• Five of the largest
banks insolvent
• Loan losses equal
to 12% of GDP
What to do?
• Early stages: ad
hoc solutions
• Currency
defense
• Crisis spread to
entire financial
system
• Need for largescale response
Key Goals
• Maintain liquidity
• Reduce inflation
• Restore
confidence
• Mitigate moral
hazard
Nationalize it!
• Guaranteed entire
bank system
– Left out shareholders
– Forced banks to write
down losses
• Floated currency
• Bailout money in
exchange for equity
• Transferred bad
debts to state-run
companies which
sold assets
Bank Grading
Asset Management Companies
• Government-run:
– Securum (Nordbanken)
– Retriva (Gota Bank)
• Bank-run:
– Diligentia (S-E-Banken)
– Nackebro
(Handelsbanken)
• Ensured political/financial
independence
Long-term
• Provided avenue
for taxpayers to
regain money
• Mitigated moral
hazard problems
• Total government
outlay: 4% of GDP
– Recouped most by
selling stakes and
assets
LESSONS
Lesson #1: Nationalization
• Taxpayers and
government may
get profit when
markets stabilize
• More public
support
Taxpayers = Happy
Lesson #2: Repairing Confidence
• Goal: Re-establish
creditor and
depositor
confidence
• How? Controversial:
Et voila! Confidence!
– Maintain market
discipline by letting
investors suffer loss
(Ergungor &
Thomson)
– Blanket guarantee
to avoid runs and
allow restructuring
(The Economist)
Lesson #3: Let an Independent
Agency Take the Reins
• Sweden established bad banks (AMCs) to take over assets of
good banks
– Good banks continue under original name
– Deliberate over-capitalization in bad banks so bad banks can
salvage independently
• Key: Political, financial independence
Lesson #4: Transparency
• Preserves
market
confidence
• Garner public
support
Transparency is
cool. Like this
transparent
toaster.
But Beware!
Sweden’s schemes may not
work for the United States…
WHY NOT?!
• Localized financial
distress then; int’l
financial distress
now
• Favorable int’l
economy then
• Sheer size of US
economy
• Political structure