The global economy has been thrashed for the last year by the financial crisis. Here are some of the most important terms to know to understand the scope of the crisis.
Asset backed securities (ABS): A debt security collateralized by specific assets. Although the term applies to any debt backed by identified assets, it generally refers to securities backed by short- term collateral such as credit-card receivables, car loans, and home- equity loans.
Credit crunch: Since banks are now leery about lending money to one another, there is less money available for making consumer loans. Some companies have also begun to complain about problems in securing loans.
Deposit insurance: A government guarantee on individual savings up to a certain monetary level, though some nations have opted to provide unlimited guarantees, regardless of the amount of savings held.
Guarantee: The assumption of responsibility for payment of a debt or performance of some obligation if the liable party fails to perform to expectations.
Interbank trade: Refers to international trade between banks. Trade is usually conducted in currency, shares or commercial paper with fixed interest bonds.
Liquidity squeeze: When an entity lacks the financial capital to pay its obligations in a timely manner, it is said to be suffering a liquidity squeeze. Currently, many nations are pumping billions into their banks to protect them from such a squeeze.
Moratorium: A suspension of specific, or all, business activities to prevent additional damage. Sometimes a moratorium can be decreed by a nation. Sometimes a business can enact a moratorium on its own. In bankruptcy law, a legally binding halt of the right to collect debt.
Nationalization: The practice of a government to partially or wholly take control of the assets and administration of a private entity.
Real economy: Due to the credit crunch, the financial sector crisis is overlapping into manufacturing and services, which make up the so-called real economy. In a worst-case scenario, this could mean an economic slowdown or a recession.
Refinancing: Banks need regular infusions of new money, in order to provide new loans or pay out savings. They often find this money by going to their central bank, using deposits on hand or lending money to one another.
Special purpose vehicle: Financial institutions spin off special purpose vehicles so that they can focus on specific areas of the market. Many banks used these vehicles to invest in US mortgages. Using the vehicles kept the risky business off the banks’ corporate balance sheets.
Subprime: Mortgages granted to homeowners who cannot provide proof of income or assets as collateral. Many such homeowners found themselves unable to pay off their mortgages over the last year as interest rates rose and house values sank.
Write-downs: Reducing the book value of an asset because it is overvalued compared to the market value.