US emerging market crisis
Carmen Reinhart and Kenneth Rogoff wrote a paper which draws parallels between recent US subprime market and banking crises in history. It is short and very illustrative. A quote:
“Another parallel deserves mention. During the 1970s, the U.S. banking system stood as an intermediary between oil-exporter surpluses and emerging market borrowers in Latin America and elsewhere. While much praised at the time, 1970s petro-dollar recycling ultimately led to the 1980s debt crisis, which in turn placed enormous strain on money center banks. It is true that this time, a large volume of petro-dollars are again
flowing into the United States, but many emerging markets have been running current account surpluses, lending rather than borrowing. Instead, a large chunk of money has effectively been recycled to a developing economy that exists within the United States’ own borders. Over a trillion dollars was channeled into the sub-prime mortgage market, which is comprised of the poorest and least credit worth borrowers within the United States. The final claimant is different, but in many ways, the mechanism is the same.”
It appears that this crisis is similar to those which were seen in 1980s. The only difference is that we use fancier words (CDS, CDO, CPDO, SIV, …) but the mechanism is the same. Emerging economy borrows huge amounts of money and misbehaves. But this time around this emerging economy was within the US, it was the huge pool of subprime borrowers leveraging by more than trillion dollars.