Goldman Sachs And The Credit Crisis

The financial crisis of 2008 is termed as the worst economic crisis to hit the world economy since the Great Depression in 1929. Economists and financial analysts began to send warnings about a looming credit crisis when prices of houses began to decline in 2006. Investment banks’ actions, policies, and managerial decisions fueled the credit crisis. Banks increased their lending as the demand for mortgages increased. Investment banks like Goldman Sachs encouraged their clients to use their mortgages as collateral to buy other high-yielding securities and derivatives. Most of the borrowers had poor credit and hence most banks had worthless mortgages. Banks would not lend to each other because of the looming crisis and prices of derivatives in the stock market began to decline. Banks made huge losses in the crisis the borrowers’ investments were no longer profitable.

The Federal Reserve’s attempts to save the banking system by increasing liquidity did not yield the expected results. Unemployment rates and bank losses increased across the world. Investors began to sell their securities in panic to avoid further losses and this led to a further decline in share prices for securities and derivatives backed by mortgages.

Goldman Sachs role in the 2008 credit crisis

Goldman Sachs was one of the investors selling mortgages before the crisis. Goldman predicted a collapse in the housing market but continued to issue mortgages to its clients. The bank’s management knew that its clients would lose money but continued to issue mortgage- backed securities. As an investment bank, Goldman introduced risky instruments that its clients invested in oblivious of the looming crisis. Goldman was so certain about the collapse of the housing market that its management placed their bet against their markets. The bank earned a large amount of money from these bets when the market finally collapsed. The bank used its insurance covers to avoid losses in the anticipated financial crisis and hence did not lose as much as other banks and investors.

During crisis, Goldman benefited from government funds that enabled it to recover from the crisis. The bank became profitable soon after the crisis and this angered many analysts as many of its clients had lost their money. Although the CEO Lloyd Bnakfein apologized for the bank’s decision during the crisis, the bank’s reputation was ruined. In attempts to rebuild its reputation, the bank paid a fine imposed to settle charges filed against it.

Lessons from the Crisis

The 2008 credit crisis had valuable lessons for investors, governments and financial institutions. Investors including investment banks have learnt to control their debt levels. Governments now understand the need to regulate financial institutions and investigate their investment portfolios. Investors no longer assume that housing prices will always increase and prepare for situations where prices can reduce significantly. Financial institutions have now understood risk and possible consequences of high risks to the global economy.

© 2014