Foreign Demand

As argued in chapter 1, the characteristic of the current downturn is the speed with which the collapse of the US housing market was transmitted to the rest of the world, causing a simultaneous deep recession in all major economies. Although one might quickly point out that this is due to globalisation, two particular channels can be discerned. First, the current world recession is the result of a US banking crisis triggered by the collapse of the subprime market when house prices began to fall. This very rapidly became a global banking crisis because foreign banks were as highly leveraged as US banks. Foreign banks held, along with other foreign investors, a large amount of distressed US assets. Moreover, the overleveraging of foreign banks means that they had also lent large amounts against low-quality assets. Finally, foreign banks had adopted the same practices as US banks and had issued Collateralised Debt Obligations (CDO) that were selling to their investors in an effort to get rid from their balance sheet these high-risk assets. Excessive greed, though, resulted in only a partial removal of these toxic assets from the balance sheet of foreign banks causing huge bank losses when asset prices worldwide started to tumble.