6 ms·

Can someone explain this to a non-finance / non-macroeconomics type? Was it foreigners who were pulling money out? Was it people in the US? If they pull $5.5

Can someone explain this to a non-finance / non-macroeconomics type? Was it foreigners who were pulling money out? Was it people in the US? If they pull $5.5 trillion in cash out, where would it have gone? Just don't understand why everything would have collapsed.

revelude 18y ago
As market conditions changed so fast in those days and weeks, folks in the industry probably needed to cash out of previous investments, in order to invest their money in less risky markets. Most likely, the very systems and theories that built the house of cards also decided to gather up their deck before someone else toppled it first. Note: I'm no economist, nor expert, but neither are you (or anyone, anymore).
josefresco 18y ago
If you read the comments, someone said that it was mid-level people, like money market managers who were pulling the initial money out. I can't speak for the entire 5.5 trillion.
dreish 18y ago
A better question is: Where would it have come from? Most of the assets backing money market funds are short-term obligations to repay from a broadly diversified range of borrowers, usually corporate or municipal, with a small amount of cash to facilitate transactions. The terms of those loans to companies and local governments don't allow the bank to just demand the money ahead of schedule. The assumption is that when one particular fund experiences a high volume of withdrawals, it will be able to sell its commercial-paper assets to other banks, or as a last resort, borrow from the Fed to cover the withdrawals. The extraordinary event here was that there was such a massive panic across the entire country, not even the Fed would have been able to keep up. Incidentally, what touched off this panic was when two money market funds "broke the buck" on the same day; that is, instead of paying their investors an interest dividend, they announced that their investors' deposits had shrunk (by a small amount) from the day before. Depositors thought the financial crisis was about to consume money market accounts, panicked, and moved their cash from non-FDIC-insured MM accounts into regular checking accounts.
- bokonist 18y ago
  The funds would have simply vaporized. The actual supply of green dollar bills in the world is about $800 billion. But money market funds are valued at $8 trillion. If everyone actually tries to redeem their shares for dollars, each share would ends up being worth pennies on the dollar. Instead, the Fed stepped in an backed up the funds with the full faith and credit of the U.S. government. Essentially, the Fed monetized the money market funds.
deleted 18y ago
[deleted]
tc 18y ago
If true, this was part of a flight to government-guaranteed debt such as US Treasuries and away from debt such as corporate and municipal bonds. This has been called the flight to 'quality,' but of course the only quality inherent in government debt is that the government can always print more money rather than defaulting. Of course, once a substantial block of assets receives this guarantee, investors demand a premium for debt that _lacks_ this guarantee. Existing corporate bonds didn't have this premium, so everyone wanted rid of them once the government expanded guarantees to cover nearly everything but corporate debt. And since money market funds held substantial portfolios of corporate bonds, investors wanted their money out of money market funds. See also this contemporaneous piece: http://norris.blogs.nytimes.com/2008/09/17/flight-to-quality/ http://norris.blogs.nytimes.com/2008/09/17/flight-to-quality...
- michaelneale 18y ago
  >government can always print more money rather than defaulting That's not all powerful nations governments can do. The militaries of countries are not only there for defense, they have always been to guard the "interests" of countries as well as their people. Everyone seems to forget this (and it would seem immoral today to use military to further interests beyond life and liberty, yet history shows that has always been the case).
mattobrien 18y ago
This was a bank run, except it involved money market accounts. Money market accounts hold a lot of short term corporate debt. After Lehman went bankrupt, a few prominent money market accounts that held Lehman debt "broke the buck", ie paid out less than what investors put in. Since money market accounts weren't insured at the time, this set off a panic. People likely called their fund managers, trying to redeem their funds, to move it to FDIC insured bank accounts. If fund managers tried to redeem over 50% of their funds at once (as some funds experienced), that would explain hundreds of billions of dollars draining out in an hour. If the money market accounts crashed, financial companies wouldn't have been able to roll over their short term debt, which they rely on for day-to-day operations. Non-depository institutions (like the surviving investment banks) would be forced into bankruptcy. Those bankruptcies would cascade, and depository institutions would fail as well, probably with bank runs on accounts over the FDIC limit. What made the Great Depression great were the banking crises. Without a functioning financial system, a modern economy can't grow. And if we reached a point where people couldn't even get money out of ATMs, we're talking about complete social breakdown. One Congressman claimed the administration talked about martial law as a real possibility. We really did come close to the brink. And the downward cycle went even faster than prescient bears like Nouriel Roubini thought it would.
- jacquesm 18y ago
  Thank you, that's the clearest explanation of this whole thing that I've read to date.
- richcollins 18y ago
  > financial companies wouldn't have been able to roll over their short term debt, which they rely on for day-to-day operations The fact that they rely on debt for day-to-day operations should be a red flag that they are doing something wrong.
  - catch23 18y ago
    I think it's mostly as a way to smooth out their financial numbers, even companies with tons of money in the bank still uses short term debt on daily basis... at least that was how a business owner explained it to me.
voberoi 18y ago
mattobrien's explanation was awesome. A lot about the current crisis was demystified for me in an episode of This American Life: http://www.thisamericanlife.org/Radio_Episode.aspx?episode=365 http://www.thisamericanlife.org/Radio_Episode.aspx?episode=3... I'd recommend this to anyone who's looking for a well-explained overview. Set aside an hour or so to give it a listen.

revelude 18y ago

As market conditions changed so fast in those days and weeks, folks in the industry probably needed to cash out of previous investments, in order to invest their money in less risky markets. Most likely, the very systems and theories that built the house of cards also decided to gather up their deck before someone else toppled it first. Note: I'm no economist, nor expert, but neither are you (or anyone, anymore).

josefresco 18y ago

If you read the comments, someone said that it was mid-level people, like money market managers who were pulling the initial money out. I can't speak for the entire 5.5 trillion.

dreish 18y ago

A better question is: Where would it have come from? Most of the assets backing money market funds are short-term obligations to repay from a broadly diversified range of borrowers, usually corporate or municipal, with a small amount of cash to facilitate transactions. The terms of those loans to companies and local governments don't allow the bank to just demand the money ahead of schedule. The assumption is that when one particular fund experiences a high volume of withdrawals, it will be able to sell its commercial-paper assets to other banks, or as a last resort, borrow from the Fed to cover the withdrawals. The extraordinary event here was that there was such a massive panic across the entire country, not even the Fed would have been able to keep up. Incidentally, what touched off this panic was when two money market funds "broke the buck" on the same day; that is, instead of paying their investors an interest dividend, they announced that their investors' deposits had shrunk (by a small amount) from the day before. Depositors thought the financial crisis was about to consume money market accounts, panicked, and moved their cash from non-FDIC-insured MM accounts into regular checking accounts.

bokonist 18y ago
The funds would have simply vaporized. The actual supply of green dollar bills in the world is about $800 billion. But money market funds are valued at $8 trillion. If everyone actually tries to redeem their shares for dollars, each share would ends up being worth pennies on the dollar. Instead, the Fed stepped in an backed up the funds with the full faith and credit of the U.S. government. Essentially, the Fed monetized the money market funds.

deleted 18y ago

[deleted]

tc 18y ago

If true, this was part of a flight to government-guaranteed debt such as US Treasuries and away from debt such as corporate and municipal bonds. This has been called the flight to 'quality,' but of course the only quality inherent in government debt is that the government can always print more money rather than defaulting. Of course, once a substantial block of assets receives this guarantee, investors demand a premium for debt that _lacks_ this guarantee. Existing corporate bonds didn't have this premium, so everyone wanted rid of them once the government expanded guarantees to cover nearly everything but corporate debt. And since money market funds held substantial portfolios of corporate bonds, investors wanted their money out of money market funds. See also this contemporaneous piece: http://norris.blogs.nytimes.com/2008/09/17/flight-to-quality/ http://norris.blogs.nytimes.com/2008/09/17/flight-to-quality...

michaelneale 18y ago
>government can always print more money rather than defaulting That's not all powerful nations governments can do. The militaries of countries are not only there for defense, they have always been to guard the "interests" of countries as well as their people. Everyone seems to forget this (and it would seem immoral today to use military to further interests beyond life and liberty, yet history shows that has always been the case).

mattobrien 18y ago

This was a bank run, except it involved money market accounts. Money market accounts hold a lot of short term corporate debt. After Lehman went bankrupt, a few prominent money market accounts that held Lehman debt "broke the buck", ie paid out less than what investors put in. Since money market accounts weren't insured at the time, this set off a panic. People likely called their fund managers, trying to redeem their funds, to move it to FDIC insured bank accounts. If fund managers tried to redeem over 50% of their funds at once (as some funds experienced), that would explain hundreds of billions of dollars draining out in an hour. If the money market accounts crashed, financial companies wouldn't have been able to roll over their short term debt, which they rely on for day-to-day operations. Non-depository institutions (like the surviving investment banks) would be forced into bankruptcy. Those bankruptcies would cascade, and depository institutions would fail as well, probably with bank runs on accounts over the FDIC limit. What made the Great Depression great were the banking crises. Without a functioning financial system, a modern economy can't grow. And if we reached a point where people couldn't even get money out of ATMs, we're talking about complete social breakdown. One Congressman claimed the administration talked about martial law as a real possibility. We really did come close to the brink. And the downward cycle went even faster than prescient bears like Nouriel Roubini thought it would.

jacquesm 18y ago
Thank you, that's the clearest explanation of this whole thing that I've read to date.
richcollins 18y ago
> financial companies wouldn't have been able to roll over their short term debt, which they rely on for day-to-day operations The fact that they rely on debt for day-to-day operations should be a red flag that they are doing something wrong.
- catch23 18y ago
  I think it's mostly as a way to smooth out their financial numbers, even companies with tons of money in the bank still uses short term debt on daily basis... at least that was how a business owner explained it to me.

voberoi 18y ago

mattobrien's explanation was awesome. A lot about the current crisis was demystified for me in an episode of This American Life: http://www.thisamericanlife.org/Radio_Episode.aspx?episode=365 http://www.thisamericanlife.org/Radio_Episode.aspx?episode=3... I'd recommend this to anyone who's looking for a well-explained overview. Set aside an hour or so to give it a listen.