By Jessica Edgson
“History suggests that capitalism is a necessary condition for political freedom,” said American economist, Milton Friedman. If it is true, then it certainly explains why the European and American governments are extremely worried about the economic crisis at present. The money market is said to be at its worst since the great depression. Before you start having flashes of doom, however, there are measures being taken by world leaders to prevent another major economic recession. Fears of an economic recession began earlier this year when the default rate on sub-prime mortgages grew rapidly. Sub-prime mortgages are mortgages that have adjustable rates and fitted to suit people who cannot afford the usual interest rates on mortgages or who have a poor credit rating. The house or property purchased is used as collateral for the loan. The problem with this is, if too many defaults occur, the bank sits with too much property and not enough money. A credit crunch makes it more difficult to get a loan from a bank and the less available loans become, the less liquidity there is in the money market. Banks make money off the interest rates earned by loans but, with the current imbalance caused by defaults on these loans, banks are more than just careful about handing them out. As a result of the liquidity problems and scarcity of loans, people are less inclined to invest.
The US is undoubtedly one of the most important contributors to the world’s economy. It therefore received a significant blow when three of the five biggest investment banks were bought out this year. As of 14 October, Goldman Sachs and Morgan Stanley are remaining but no longer standing strong. Insecurity on the stock market can only worsen the situation and on Monday 13 October, Wall Street, the centre of stock trading in New York, held a rally to regain investment on the US stock markets. This rally was well-timed, as around US $24-trillion of shareholder wealth had been lost the previous week.
Unlike the government at the time of the 1929 stock market crash, resulting in the great depression, the world leaders at present have a plan to save the economy. A bailout programme to the value of $700-billion has recently been passed and the Bush administration plans to pump $250-billion of that $700-billion into US banks in an attempt to increase liquidity. A quick look at the economic activities of late and one might tremble in fear, but many economists believe that capitalism will emerge triumphant.
Bill Gates has commented by saying, “It looks like the economy may go down somewhat, but nothing like a big recession or a depression.” So do we have something to worry about? The answer is, most likely, yes, we do, but not to the extent that many feared. It looks, for the time-being, as though we may pull through this one, what with the various plans put in place by the world’s major economic powers.