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P1.T1.702. Getting up to Speed on the Financial Crisis (Gorton)

Nicole Seaman

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Learning objectives: Distinguish between triggers and vulnerabilities that led to the financial crisis and their contributions to the crisis. Describe the main vulnerabilities of short-term debt especially repo agreements and commercial paper. Assess the consequences of the Lehman failure on the global financial markets.


702.1. According to Ben Bernanke, among the following trigger/vulnerability pairs, which were the primary TRIGGER and (among) the primary VULNERABILITIES, respectively, that led to the financial crisis?

a. Derivatives (trigger); and Monetary policy (vulnerability)
b. Deficiencies in Risk Management (trigger); and The prospect of losses on subprime mortgage loans (vulnerability)
c. Leverage (trigger); and Sudden stop in syndicated lending to large, relatively risky corporate borrowers (vulnerability)
d. The prospect of losses on subprime mortgage loans (trigger); and Dependence on unstable short-term funding (vulnerability)

702.2. Which of the following was an important consequence of the Lehman failure?

a. Their direct bailout by the U.S. government creates moral hazard
b. Triggers a run on asset backed commercial paper (ABCP) market
c. Triggers a run on money market mutual funds (MMFs) and global loss of confidence
d. The failure of Lehman was actually NOT consequential to the crisis from a historical timeline perspective

702.3. According to Gorton, which of the following dynamics offers the BEST explanation for the contagion from subprime securities--a relatively small market--to the much larger financial system?

a. Repo haircuts shocked (increased) for many assets that had no direct connection to subprime securities
b. Liquidity support by central banks (a policy response) had the unexpected consequence of alarming market participants
c. In August 2007, forty three (43) money market mutual funds "broke the buck" which prompted widespread liquidity hoarding by institutional cash pools
d. The expectation of future home price increases (cause) led to a credit boom (effect) and the credit boom contagiously attracted non-related lenders to non-related sectors

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