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The 2008 Financial Crisis is the worst economic disaster since the Great Depression

February 27, 2019 0 Comment

The 2008 Financial Crisis is the worst economic disaster since the Great Depression, it reshaped the world of finance and investment banking. This year marks the 10th anniversary and the effects are still being felt today.

It was a combination of debt and mortgage-backed of assets. There was an explosion in the issuance of bonds backed by mortgages. Investment banks were buying mortgages from mortgage issuers, repackaging them and then selling off specific tranches of the debt to investor, there were less and less new mortgages to securitize so the structured products groups at banks started repacking.

Theoretically, the pooling of different mortgages reduced risk and therefore the assets were quite safe, the greater number of the mortgages being securitized were of poor quality. The ratings agencies who rated the both mortgages and collateral debt obligations did not fully appreciate the low-quality mortgages backing the assets they were rating, or they overestimated the benefits of diversification in the housing market and as a result, many of the mortgages and collateral debt obligations were rated the top. The defaults in the mortgage markets caused a collapse in the value of the collateral debt obligations, which created a cascade of additional problems as the multitude of collateral debt obligations were executed, dragging down the balance sheets of the major players in investment banking.  This lead to the freezing of private credit markets. 

The collapse of the debt obligations lead to a significant problem since no one was trading debt obligations it was no longer clear what they were worth. The financial system is based on trust.  So, the evaporation of trust meant that no private financial institution where willing to lend its scarce cash to any other since the former couldn’t trust that the latter was correctly revealing the extent of its collateral debt obligation holdings, and neither could be sure what those holdings were worth. The liquidity problems turned to insolvency, when private lending froze completely numbers of important credit markets, such as commercial paper. Consequence non-financial businesses were unable to get access to the financing they required to function normally, leading to problems in the real economy.

Each in its own way, economies abroad as in Germany, Japan, and China were locked in recession, as were many smaller countries. Many in Europe paid the price for having dabbled in American real estate securities. Japan and China largely avoided that pitfall, their manufacturers suffered recessions in their major markets. Both U.S. and Europe – cut deep into demand for their products. Less developed countries likewise lost markets abroad, and their foreign investment, on which they had depended for growth capital withered. With none of the biggest economies prospering, there was no obvious engine to pull the world out of its recession, and both government and private economists predicted a rough recovery.

”Prior to the Global Financial Crisis of 2008, it might have made sense for globally active corporations to manage their affairs on the premise that maximizing the value of the wealth of the shareholders was the dominant paradigm defining how they made financial choices. But in today’s world of tumultuous geopolitics and technological change, firms should abandon the premise and instead focus much more specifically on the health and wealth of other stakeholders including employees, customers and the political communities in which they are active. Shareholders no longer need nor deserve the dominant attention and position they have receiver in the past”

I agree with the statement, shareholders deserve the dominant attention, maximizing shareholder value is a powerful idea. According to the Economist article ”firms are run in the interest of shareholders, who usually want companies to use every legal means to maximize their profits”. So, without a shareholder’s agreement, my partner could decide to sell the shares to any third party without my approval. I could literally end up with a business partner because someone was willing to buy the shares. A clause on the restriction on transfer of shares would insure my partner to ask me to buy the shares first. The purpose is to protect the shareholder’s investment of the company, to establish a fair relationship between them. It should also be stated that a shareholder agreement can serve as a great guide to be followed later, especially when the shareholders don’t get along, or don’t communicate. A shareholder agreement is most often needed when it’s too late to put one into place, when the parties can’t agree on anything.

Schumpeter reckons mentions there are six distinct corporate tribes, each with its own interpretation of what shareholder value means. Corporate toilers: “they believe in the primacy of shareholder value but are prepared to be more patient. At their best these firms are consistently successful” their main purpose is to set out certain rights and responsibilities of the company’s shareholders, to provide for the ongoing governance of the company’s business. Many company actions are addressed in a shareholder agreement. These actions can include starting up the company, dealing with company employees, implementing a business succession plan, or obtaining equity financing. Regardless of the many different circumstances in which a shareholder may be useful, it is usually put into place because the shareholders anticipate problems which might arise in the future. They use them to implement certain practices to deter such problems from arising at all. Some of these problems relate to control and management, others relate to financing and conflicts of interest, while others relate to the possible abuse of power by the majority shareholder.
In the absence of a unanimous shareholder agreement, the ability of shareholders to control a private company is generally limited in practice to their power to elect and remove directors. It is the directors who have the fundamental power and duty to manage the company unless restricted by a unanimous shareholder agreement.
Considering foregoing, shareholder’s play an important role in the financing, operations, governance and control aspects of a business. It’s important to seek professional assistance before finalizing the agreement. Each shareholder should seek independent legal advice before entering into an agreement to ensure their interests are being protected.