why recession in the us economy?

What is recession: is a decline in the Gross Domestic Product (GDP) for two or more consecutive quarters. Though there are many other definitions.

Believe me like my all other blogs this one too vents out , out off desperation.

Though this blog (unlike my other) not being on a girl , but is surely on love. Our inevitable love of markets. to start with, I would plagiarise, by reiterating “lot as happened in the market in the last 4 days.

What are we scared of :the so called “credit crunch”. Credit crunch is (generally) sudden reduction in availability of loans or the sudden increase in the cost of obtaining a loan.

Why this: because a huge amount of debt has already built up over the last 1 and a half decade. And a large amount of that is mortgage loan (which generally takes a lot 10 -30 years to return) since us has a highly developed market for mortgage loans.

So the banks might have to take around 1-2 trillion $ of mortgages back on their balance sheets. That will lead to a severe restraint on lending (by banks), which will feedback into the economy in various ways which I’ll discuss later.

Why such leveraged lending:

a)exports by low cost producers such as India and china over the last decade or so have controlled inflation in the US. Hence interest rates could accordingly be kept low overthere, since no fear of inflation. And low interest rates lead to more inflation.

b)and also countries such as India and china prefer to save than spend. so the money we saved on exports, a small part of that large money went back to US in form of investments. Leading to increase in asset prices in the US, keeping inflation same at the same time. since inflation is decided by a large number of factors.

So now we what a credit crunch is & why such a situation has arrived in the US.

And might come in a few other developed economies too.eg. uk, spain, ireland

Why is this credit crunch affecting stock markets:

a) when people need money and are not getting it from banks , they sell liquid assets like stocks.

b) large amount of financial engineering (somthing I really love).that is. share buy backs being funded by debts.

Buyback: is when a company takes(buyes back) certain amount of its shares from the market. This is generally done in order to increase the cost of shares, and as is evident it is done by companies whose stokes become stagnant. (ie. They are decreasing supply in order to raise prices). Now when this is done by companies which are not making cash as fast as they are buying back, this would lead to leverage buying. And since most buybacks these days are debt funded, it leads to leveraged debts. And also share prices generally stagnate of those companies which are not making huge profits.

And buybacks are investor forced. ie. Generally investors or their representations such as hedge funds or mutual funds (which acquire a huge say in the company by buying huge stakes) pressurize companies to do so.

And as is pretty clear these debt funded buybacks generally take a lot of time to return loans and rarely falter also.

c) And also the profits of many companies are financed (by debts). this is done for a good balance sheet (and most importantly investor confidence).

Now that sounds trouble.

There have been many other factors related to bad debts such as flawed loan rating policies.

Wait for the next one , lot yet to come regardin what the US should do to minimize its effect and how India can parry off this blow