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The Great Moderation, the Great Panic
and the Great Contraction
Charlie Bean
Deputy Governor, Bank of England
Barcelona, 25 August 2009
1. International credit expansion
Financial liabilities of household and business (% of GDP)
250
200
Germany
Spain
UK
France
US Household and corporate
sector
US Financial sector
250
200
US
150
150
100
100
50
50
0
0
1995
1997
Source: OECD
1999
2001
2003
2005
2007
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008
Source: Federal Reserve, Flow of Funds
2. Financial innovation
Stock of CDS outstanding
Off-balance-sheet issuance
$ billions
3,500
CDO issuance
1996
US$ trillions
70
Non CDO ABS
issuance
CMBS issuance
3,000
60
2,500
50
RMBS issuance
2,000
40
1,500
30
1,000
20
500
10
0
0
1998
2000
Source: Dealogic.
2002
2004
2006
2008
04H2 05H1 05H2 06H1 06H2 07H1 07H2 08H1 08H2
Source: Bank for International Settlements.
(a) Notional principal of outstanding credit default swaps.
3. Real house prices
Q1 1980 = 100
Australia
France
Germany
Ireland
Spain
Switzerland
350
United Kingdom
United States
300
450
400
250
200
150
100
50
0
1980
1985
1990
1995
Source: Bank for International Settlement
2000
2005
4. The Great Moderation
Output and inflation volatility in the G5
UK: K
US: S
Japan: J
Germany: G
Standard deviation
of inflation
6
5
K
J
1970-92
4
France: F
F
3
S
2
1993-2007
K
1
G
SG J
F
0
0
1
2
Standard deviation of output growth
Source: ??
3
5. The Great Moderation and risk perceptions
Implied volatilities from options – standardised to zero mean
and unit variance
4
MOVE
3
VIX
2
1
0
-1
-2
2000
2001
2002
2003
Source: Bloomberg and Bank calculations
2004
2005
2006
2007
6. Overly Loose Monetary Policy?
Deviation of policy rates from Taylor rule
5
Percentage points
Euroarea
UK
US
4
3
2
1
0
-1
-2
-3
-4
-5
2000
2001
Source: OECD
2002
2003
2004
2005
2006
2007
2008
2009
7. Global imbalances
Current accounts (% of GDP, 5-year rolling average)
UK
Japan
China
US
Germany
Percent of GDP
10
8
6
4
2
0
-2
-4
-6
-8
1950
1960
1970
Source: IMF and national sources
1980
1990
2000
8. Long-term real interest rates
Real 8.5 year government forward rates
Per cent
6
5
4
3
2
UK
US
1
0
1990
1993
1996
1999
Source: Bloomberg and Bank calculations
2002
2005
2008
Percentage growth in real house prices (2000 Q1 - 2007 Q4)
9. Real house prices & current accounts
10
Spain
United Kingdom
New Zealand
France
Australia
Sweden
Belgium
Ireland
Norway
Canada
5
United States
Italy
Finland
Switzerland
0
Germany
Japan
-5
-10
-5
0
5
10
15
Current account/GDP (average 2000 Q1-2007 Q4)
Source: Bank for International Settlements
20
RK = (1+λ)RL – λRD
10. Defaults on US sub-prime mortgages
Default rate by cohort of origination
2001
2002
2003
2004
2005
2006
2007
3
6
9
12 15 18 21 24 27 30 33
Months After Issuance
Per cent
24%
22%
20%
18%
16%
14%
12%
10%
8%
6%
4%
2%
0%
36
S o urc e : M o o dy's Inve s to rs S e rvic e .
(a ) Adjus ta ble ra te m o rtga ge s , re la tive to o rigina l ba la nc e .
11. Pay-offs & prices on CDO tranches
Tranche
payoff
Maximum payoff
Price (per cent of par)
120
100
80
S0
60
AAA
AA
A
BBB
BBB-
40
20
0
K3
K2
K!
ST
Jan. Apr. Jul. Oct. Jan. Apr. Jul. Oct. Jan. Apr. Jul.
2007
08
09
Source: JP Morgan Chase & Co.
(a) Each index references 20 home equity loan (HEL) ABS
of indicated rating issued in 2005 H2. Sub-prime mortgages
form the vast majority of the collateral backing HEL ABS.
12. CDS spreads for major financial institutions
HSBC
RBS
Citigroup
Goldman Sachs
Deutsche Bank
UBS
Lehman Brothers
Basis points
800
700
600
500
400
300
200
100
0
Jan. Apr. Jul. Oct. Jan. Apr. Jul. Oct. Jan. Apr. Jul.
08
09
2007
Source: Markit.
(a) Five-year senior CDS premia.
13. The Great Panic: the flight to quality
Spread between US Treasuries and Eurodollar rates
7
Per cent
7
Percentage points
TED spread (lhs)
6
6
3-month T-bill yield (rhs)
3-month eurodollar rate (rhs)
5
5
4
4
3
3
2
2
1
1
+0
0+
-1
1-
Jan.
Apr.
Jul.
2007
Source: Bloomberg
Oct.
Jan.
08
Apr.
Jul.
Oct.
Jan.
09
Apr.
Jul.
14. Expected losses get bigger & bigger…
Financial sector writedowns on US originated assets
$bn
3,000
2,500
2,000
1,500
1,000
500
0
Apr-08
Oct-08
Jan-09
Apr-09
S o urc e : IM F , Glo bal Financ ial S tability R e po rt, Wo rld Ec o no m ic Outlo o k , va rio us is s ue s . Es tim a te s
o f po te ntia l write do wns fo r 2007-2010 o n US o rigina te d a s s e ts a s re po rte d in the GF S R a nd GF S R
qua rte rly upda te s .
15. The Great Contraction
Percentage changes on a year
12
earlier
8
4
0
IMF July 2009 WEO update
forecast for 2009 and 2010
World real GDP grow th
-4
-8
World trade volume grow th
1970
1975 1980 1985 1990 1995 2000 2005
Source: IMF World Economic Outlook
-12
2010
16. UK financial network in 2007
Gross bilateral exposures
17. International financial network in 2005
External assets + external liabilities
Source: BIS, IMF, OECD, UNCTAD and Kubelec and Sa (2009)
18. Total output loss in slowdowns & recessions
Medians, % GDP
0
-1
-2
-3
-4
-5
Slowdowns
Preceded by financial
stress
Not preceded by
financial stress
Source: IMF WEO October 2008
Recessions
Preceded by financial
stress
Not preceded by
financial stress
The Great Moderation, the Great Panic
and the Great Contraction
THE END
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