The 2008 Financial Crisis and Government Response

Bank Runs and Regulation

• Factors mitigating bank runs include effective communication, deposit insurance, and a stable banking environment.
• Banks are heavily regulated in the US due to their role in the economy, risks to financial stability, and need to protect consumers' deposits.

Creation of the FDIC

• The Federal Deposit Insurance Corporation (FDIC) was created in response to widespread bank failures during the Great Depression in 1933.

Theory of Bank Runs

• A key idea NOT in the theory of bank runs is the absence of depositors' panic.
• In equilibrium 1 of the theory, impatient depositors withdraw their funds first, which can trigger a bank run.

Federal Reserve's Role

• The Federal Reserve acts as the 'lender of last resort' by providing emergency funds to banks in financial distress to maintain stability in the banking system.

Purpose of the FDIC

• The FDIC's primary purpose is to insure deposits, ensuring that depositors do not lose their savings in case of bank failures.

Mutual Funds

• Actively managed mutual funds aim to outperform a stock index and generally charge higher fees compared to passive funds.
• The Morningstar Style Box helps classify active mutual funds based on their investment style and market capitalization.

Government Economic Programs

• The Capital Purchase Program involved a significant investment from the US Treasury to inject capital into financial institutions following the 2008 financial crisis.
• The program allocated $205 billion in preferred shares to stabilize the financial sector.
• The Auto Industry Financing Program provided loans and capital to automakers General Motors and Chrysler during economic downturns.

Investment Vehicles

• Hedge funds are primarily invested in alternative assets such as stocks, bonds, derivatives, and commodities.
• The Net Asset Value (NAV) per share is calculated by subtracting total liabilities from total assets and dividing by the number of outstanding shares.

Risk and Incentives

• Renters with insurance may have weaker incentives to protect against theft due to the safety net that insurance provides.
• TBTF (Too Big to Fail) refers to institutions whose failure would significantly impact the economy, prompting government intervention.

Moral Hazard and TBTF

• TBTF creates a moral hazard problem as it encourages risky behavior knowing that the government may bail out failing institutions.
• The origins of TBTF stem from historical financial crises where certain banks received government support to avoid economic collapse.

Hedge Fund Strategies

• Potential risks associated with hedge fund strategies include high leverage, illiquidity, and lack of transparency.
• Activism in hedge fund strategies aims to influence company management and operations for improved performance.
• Global macro hedge fund strategies focus on broad economic trends and typically invest across various asset classes.
• Arbitrage in hedge fund strategies is employed to exploit price discrepancies in different markets to achieve profits.