A credit crunch (also known as a credit squeeze or credit crisis) is a reduction in the general availability of loans (or credit) or a sudden tightening of the conditions required to obtain a loan from the banks. A credit crunch generally involves a reduction in the availability of credit independent of a rise in official interest rates. In such situations, the relationship between credit availability and interest rates has implicitly changed, such that either credit becomes less available at any given official interest rate, or there ceases to be a clear relationship between interest rates and credit availability (i.e. credit rationing occurs). Many times, a credit crunch is accompanied by a flight to quality by lenders and investors, as they seek less risky investments (often at the expense of small to medium size enterprises).

There are a number of reasons why banks may suddenly stop or slow lending activity. This may be due to an anticipated decline in the value of the collateral used by the banks to secure the loans; an exogenous change in monetary conditions (for example, where the central bank suddenly and unexpectedly raises reserve requirements or imposes new regulatory constraints on lending); the central government imposing direct credit controls on the banking system; or even an increased perception of risk regarding the solvency of other banks within the banking system. A credit crunch is often caused by a sustained period of careless and inappropriate lending which results in losses for lending institutions and investors in debt when the loans turn sour and the full extent of bad debts becomes known.[4][5] These institutions may then reduce the availability of credit, and increase the cost of accessing credit by raising interest rates. In some cases lenders may be unable to lend further, even if they wish, as a result of earlier losses.

The crunch is generally caused by a reduction in the market prices of previously "overinflated" assets and refers to the financial crisis those results from the price collapse. This can result in widespread foreclosure or bankruptcy for those investors and entrepreneurs who came in late to the market, as the prices of previously inflated assets generally drop precipitously. In contrast, a liquidity crisis is triggered when an otherwise sound business finds itself temporarily incapable of accessing the bridge finance it needs to expand its business or smooth its cash flow payments. In this case, accessing additional credit lines and "trading through" the crisis can allow the business to navigate its way through the problem and ensure its continued solvency and viability. It is often difficult to know, in the midst of a crisis, whether distressed businesses are experiencing a crisis of solvency or a temporary liquidity crisis.

In the case of a credit crunch, it may be preferable to "mark to market" - and if necessary, sell or go into liquidation if the capital of the business affected is insufficient to survive the post-boom phase of the credit cycle. In the case of a liquidity crisis on the other hand, it may be preferable to attempt to access additional lines of credit, as opportunities for growth may exist once the liquidity crisis is overcome. For example AIG, as of June 30, had written $441 billion worth of swaps on corporate bonds, and worse, mortgage-backed securities. As the value of these insured-referenced entities fell, AIG had massive write-downs and additionally had to post more collateral. And when its ratings were downgraded on Monday evening, the company had to post even more collateral, which it didn't have. In September 2008, the IASB and FASB issued a progress report and a timetable for completion for the projects initially discussed in their 2002 Memorandum of Understanding.  Both Boards are clearly working hard to bring the standards more in line with one another. In addition, the SEC recently removed the reconciliation requirement for foreign issuers to reconcile their financial statements from IFRS to U.S. GAAP; and certain U.S. companies may file their financial statements under IFRS starting for years ending December 15, 2009.  In addition, the SEC has recently issued a release with a proposed roadmap for the potential mandatory adoption of IFRS in the U.S.

In short, what happened in one small AIG corporate subsidiary blew apart the largest insurance company in the world. We emphasis one of the mail reason of financial crisis. However the fact s said one of the main reason of financial crisis is different between measurement and estimated that accounting used estimated in hedge and financial instrument but other assets calculated by measurement.

A prolonged credit crunch is the opposite of cheap, easy and plentiful lending practices (sometimes referred to as "easy money" or "loose credit"). During the upward phase in the credit cycle, asset prices may experience bouts of frenzied competitive, leveraged bidding, inducing inflation in a particular asset market. This can then cause a speculative price "bubble" to develop. As this upswing in new debt creation also increases the money supply and stimulates economic activity, this also tends to temporarily raise economic growth and employment. Often it is only in retrospect that participants in an economic bubble realize that the point of collapse was obvious. In this respect, economic bubbles can have dynamic characteristics not unlike Ponzi schemes or Pyramid schemes. In the lack of corporate governance and social ethics we are going to see corporate fraud and elephant moral in globalization.

 This tutorial has examined the most remarkable period many investors may ever experience. The credit crisis reshaped the financial landscape, threatened the stability of international finance and changed Wall Street forever. Let's take a look at what market learned from financial credit: 

 Commercial banking and investment banking have historically been separated.

 As part of a plan to reform the financial system, the Glass-Seagull Act separated investment banking firms from commercial banking firms.

 Seeking higher profits, investment banks such as Goldman Sachs increasingly turned to riskier activities such as principal trading and investing to generate the bulk of their profits. Principal trading and investing occurs when a firm uses its own capital to invest in the markets in hopes of generating profits.

 A financial crisis is often preceded by a bubble. A bubble occurs when many investors are attracted to a market sector, usually due to attractive fundamentals.

 In addition to the emotions of greed and fear, a review of the historical record shows that several factors have been present at the onset of many financial crises. These factors include an asset/liability mismatch and excessive leverage and risk. Frequently more than one factor is present, and each factor can multiply the damage caused by one of the others.

 In 2000, global financial markets entered a period that came to be defined by low interest rates and below-average volatility.

 A global savings glut in the early 2000s contributed to extremely low interest rates in many traditional asset classes, and investors sought higher returns wherever they could find them. Asset classes such as emerging market stocks, private equity, real estate and hedge funds became increasingly popular. In many instances, investors also found above-average returns in staggeringly complex fixed-income securities.

Low interest rates and minimal volatility in the early 2000s allowed investors to employ leverage to magnify otherwise subpar returns without exposure to excessive risk levels.

 Mortgage providers offered a variety of creative products designed to allow buyers to afford more expensive homes and lenders relaxed underwriting standards, allowing more marginal buyers to receive mortgages. Housing prices soared, peaking in 2006.

 Securitization describes the process of pooling financial assets and turning them into tradable securities. The first products to be securitized were home mortgages, and these were followed by commercial mortgages, credit card receivables, auto loans, student loans and many other financial assets.

 As the rate of appreciation in home values dramatically increased during the early years of the 21st century, many people began to believe that not only would home values not decline, but that they would also continue to rise indefinitely.

 The models that investment firms used to structure mortgage-backed securities did not adequately account for the possibility that home prices could slide.

 In 2008, the belief that home prices do not decline turned out to be incorrect; home prices began to slide in 2006 and by 2008, they had declined at rates not seen since the Great Depression.

 As the decline in home prices accelerated, an increasing number of people found themselves struggling to make their monthly mortgage payments. This situation eventually led to higher levels of mortgage defaults.

 Investors soon began to question whether financial institutions knew the true extent of the losses on their books. This uncertainty led to sharp declines in the stock prices of many financial firms, and a growing unwillingness to bid for risky assets.   

 Once investors began to avoid risk, liquidity started to freeze up, preventing corporations and other borrowers from accessing the credit markets.

 During March 2008, Bear Stearns collapsed and was purchased by JPMorgan in a forced sale brokered by the Federal Reserve.

 On September 7, 2008, the Federal Housing Finance Agency (FHFA,) in conjunction with the Treasury Department, placed Fannie Mae and Freddie Mac under federal conservatorship as part of a four-part plan to strengthen the housing agencies.

 In September 2008, Lehman Brothers went bankrupt, Merrill Lynch was purchased by Bank of America and Goldman Sachs and Morgan Stanley became commercial banks in order to survive the crisis.

 On September 25 Washington Mutual, the nation's largest thrift bank, was seized by the Federal Deposit Insurance Corporation (FDIC) and its assets were sold to JPMorgan in what was officially the nation's largest bank failure to date.

 In times of crisis, central banks tend to lower interest rates in order to encourage borrowing and provide government guarantees on bank deposits to maintain confidence in the banking system.

 The Fed lowered its key federal funds rate to provide additional liquidity to the financial system, expanded the range of collateral it would be willing to accept in return for loans, and provided direct lines of credit to a broader variety of financial institutions (previously only commercial banks could borrow directly from the Fed.)

 In October 2008, the U.S. government approved the $700 billion Emergency Economic Stabilization Act of 2008 (the "bailout plan").

 At its inception, the credit crisis was primarily reflected in the bond market, as investors there began to avoid risky assets in favor of ultra-safe U.S. Treasury securities.

To succeed at investing in a market downturn, investors must stick to a plan, stay on top of fundamentals and keep emotional responses to market volatility from clouding decisions.