The Role of Banks in the Subprime Financial Crisis

Review of Economic Conditions in Italy, 2009/1

37 Pages Posted: 16 Apr 2009 Last revised: 12 May 2014

Michele U. Fratianni

Indiana University - Kelley School of Business - Department of Business Economics & Public Policy; Universita' Politecnica delle Marche

Francesco Marchionne

Indiana University - Kelley School of Business - Department of Business Economics & Public Policy; Università Politecnica delle Marche - Department of Economics

Date Written: April 10, 2009

Abstract

The ultimate point of origin of the great financial crisis of 2007-2009 can be traced back to an extremely indebted US economy. The collapse of the real estate market in 2006 was the close point of origin of the crisis. The failure rates of subprime mortgages were the first symptom of a credit boom tuned to bust and of a real estate shock. But large default rates on subprime mortgages cannot account for the severity of the crisis. Rather, low-quality mortgages acted as an accelerant to the fire that spread through the entire financial system. The latter had become fragile as a result of several factors that are unique to this crisis: the transfer of assets from the balance sheets of banks to the markets, the creation of complex and opaque assets, the failure of ratings agencies to properly assess the risk of such assets, and the application of fair value accounting. To these novel factors, one must add the now standard failure of regulators and supervisors in spotting and correcting the emerging weaknesses. Accounting data fail to reveal the full extent of the financial maelstrom. Ironically, according to these data, US banks appear to be still adequately capitalized. Yet, bank undercapitalization is the biggest stumbling block to a resolution of the financial crisis.

Keywords: accounting, banks, credit, crisis, fair values, risk aversion, undercapitalization

JEL Classification: G01, G21, N20

Suggested Citation

Fratianni, Michele U. and Marchionne, Francesco, The Role of Banks in the Subprime Financial Crisis (April 10, 2009). Review of Economic Conditions in Italy, 2009/1 . Available at SSRN: https://ssrn.com/abstract=1383473 or http://dx.doi.org/10.2139/ssrn.1383473

Michele Fratianni (Contact Author)

Indiana University - Kelley School of Business - Department of Business Economics & Public Policy ( email )

Bloomington, IN 47405
United States
812-855-3360 (Phone)
812-855-3354 (Fax)

Universita' Politecnica delle Marche ( email )

Piazzale Martelli, 8
60121 Ancona
Italy
39-071-2207120 (Phone)

Francesco Marchionne

Indiana University - Kelley School of Business - Department of Business Economics & Public Policy ( email )

1309 East Tenth Street
Bloomington, IN 47405-1701
United States
01 812 855-3756 (Phone)

HOME PAGE: http://kelley.iu.edu/BEPP/Faculty/page14113.cfm?ID=47081

Università Politecnica delle Marche - Department of Economics ( email )

Piazzale Martelli, 8
Ancona, 60121
Italy
+39 071 2207120 (Phone)

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