Economic Crisis

I liked a lot the class we had before the holy week that was about where did the economic crisis come from; but what I really found interesting is how do banks work. Since child I had asked my family and myself how do banks work? What do they do with all that money? Do they save it? Well, maestro John, in this class, finally solved all my doubts.

Savers deposit their money in banks and banks give 90% of that money to borrowers and they can be divided in two types: Individuals (they are given the mortgages) and business, which is used for investment and in some cases they borrow money to other banks. Borrowers have to pay what they borrowed with interests; those interests are the left money that banks win and they can give little percentage it to the savers, as an extra interest, because they saved money with the bank. Borrowers can be divided into two types: low-risk, which are the ones that actually can pay those interests and the high-risk people that obviously they can’t pay these.

Then what causes bankrupt in banks is when they gave too many mortgages to high-risk people (what the bank of US did) and then something happens and they start having problems what means that people will hear that their bank is having problems and there’s the “possibility” to loose their money and they will not like that. Therefore they run to their bank and withdraw all their money, which the bank doesn’t have because the bank stayed with only 10% of the total money. Which means that if many people loose their confidence in their bank an bank run will occur, everybody will take off their money, and the bank will not have the money to pay and it will go to the people they gave the mortgages, which are mostly high-risk, who will not pay because they can’t. But the savers will still want their money so the bank will have to go to the government to ask for its help and the government will buy the bank and “return” all the savers their money.

All this is the process in which we got into the economic crisis and I really liked this class because I didn’t know the way the banks manage their money, and it’s amazing the fact that everything, of this process, is based on people’s confidence because if they had left their money in the bank; the bank will be ok and it will just had to find the way to solve its first problem.

The teacher also talked about the Northern Rock Bank, which was the first bank to have a bank run, which consists that everybody want their money back because they loose their confidence on it because thehy may think that they will loose their money.