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Phases of financial crisis

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Explain the phases of financial crisis then briefly apply to: 1) LTCM, 2)Japanese Bubble,3) Southsea Bubble. Then explain discontent against the theory of constraints.

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Financial crises typcially consist of three phases. During the first phase, lending becomes less restrictive, increasing the ability of individuals and firms to speculate. The second phase is characterized by an inflation of asset valuation, as enthusiastic investors bid up their prices. During the last phase, reality comes to roost as the bubble bursts. Investors who've realized some profits begin to sell. This triggers "panic selling" as everyone realizes that the investments aren't really worth what they paid for them. The assets' prices may plummet to even less than they were before the crisis. Many firms and individuals become insolvent, creating hardship in the financial sectors. Loans must be rewritten off and lending once again tightens.

The Long Term Capital Management (LTCM) hedge fund was established by Salomon Brothers bond trader John Meriwether and two Nobel Prize-winning economists, Myron Scholes and Robert C. Merton in 1993 . These individuals felt they could "beat the market" with their combined expertise. They engaged in high-risk arbitrage trading strategies. Such strategies can realize large returns in short periods of time. But a single wrong ...

Solution Summary

Phases of financial crisis applied to the LTCM, Japanese Bubble, and Southsea Bubble; discontent against the theory of constraints

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Decisions and Risk Management That Led to the Subprime Mortgage Crisis

The U.S. financial markets have experienced a storm unseen since the Great Depression (some say worse than that). Losses in the financial sector wiped out much of the liquidity in the U.S. credit industry, further affecting companies' ability to borrow and continue operations. The ensuing recession has had a staggering effect on the world economy, leading to millions of job losses and causing national governments to intervene to keep the world financial systems from collapsing altogether. Because our objective in this book is to understand and learn about computer-supported decision making, we will not dig deep into financial aspects of what led to the subprime mortgage crisis. Many of the following Web sites do a good job of explaining or illustrating what happened. Review the material at the following sites (and thousands of others like these):

- www.businesspundit.com/sub-prime/ (Caution: some people may find a few words offensive.)

- E. L. Andrews, "My Personal Credit Crisis," nytimes.com/2009/05/17/ magazine/17foreclosure-t.html?_r=1&ref=magazine&page-wanted=print

- en.wikipedia.org/wiki/Subprime_mortgage_crisis

- bestwaytoinvest.com/subprime-meltdown

- investopedia.com/articles/07/subprimeoverview.asp

Read as many of these stories as you can. They paint a picture of a complete disregard for risk, irrational assumptions, lying, pure and simple greed, and follow-the-crowd mentality (groupthink). It will be a good learning experience to discuss the crisis in context of the decision-making model described in this chapter.

Questions for the Case

1. Apply principles of the intelligence phase of Simon's decision-making model, and discuss major problems that led to the subprime mortgage crisis.

2. Given what has already taken place, reapply the intelligence phase principles to determine the current state of the problem.

3. What can you recommend about the crisis now? Apply design and choice phase principles to guide you.

4. What issues will you have to keep in mind as you move your proposed solutions to implementation?

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