- The Great Recession, which ran from December 2007 to June 2009, was one of the worst economic downturns in US history.
- The economic crisis was precipitated by the collapse of the housing market, which was fueled by low interest rates, cheap lending, poor regulation, and hazardous subprime mortgages.
- New financial laws and an aggressive Federal Reserve are two of the Great Recession’s legacies.
Who is responsible for the 2008 Great Recession?
The Lenders are the main perpetrators. The mortgage originators and lenders bear the brunt of the blame. That’s because they’re the ones that started the difficulties in the first place. After all, it was the lenders who made loans to persons with bad credit and a high chance of default. 7 This is why it happened.
What variables had a role in the 2008 Great Recession?
Even while it’s commonly referred to as the Great Recession of 2008, the seeds were planted much earlier, in 2006, when early warning signs of crisis in the housing industry began to sound. Let’s take a look at the events that led up to the recession.
Housing prices increased, then fell, due to the subprime mortgage crisis
Many mortgage lenders began to broaden their definition of credit-worthy during the housing boom in the early to mid-2000s, extending mortgages to buyers with low credit histories who didn’t match the previous criteria of a suitable borrower.
Banks pounced on these high-risk loans and began purchasing them as “mortgage-backed securities” (mortgage-backed investments), a product that grew in popularity but was generally misunderstood by common investors. Due to the high demand for this new investment product, dangerous lending practices increased, resulting in a surge in the housing market. However, when house prices rose, the Federal Reserve Bank continued to raise interest rates, eventually reaching 5.25 percent in June 2006.
While individuals with fixed-rate mortgages were unaffected, millions of new borrowers had adjustable-rate mortgages, which meant that their monthly interest payments initially were lower and more manageable, but that they quickly escalated along with the higher interest rates.
Many people defaulted on their loans because they were unable to make payments or sell their properties for a profit. More inventory entered the housing market as a result, and prices continued to fall. In the end, the housing market reached a bottom in December 2008.
Banks went into crisis
Banks stopped lending to one other because they were afraid of being trapped with subprime mortgages as collateral as home prices fell and mortgage-backed securities were no longer the solid-gold investment they had appeared to be. In August 2007, the Fed attempted to restore confidence by slashing interest rates dramatically, but it proved insufficient.
The United States of America declared war on Iraq in November 2007. Treasury tried to calm the nerves by establishing a superfund to buy distressed subprime mortgage portfolios and give liquidity to banks and hedge firms. The Fed then established the Term Auction Facility (TAF) in December 2007, which provided short-term funding to banks with subprime mortgages. It was once again too little, too late.
Bear Stearns and Lehman Brothers both went bankrupt, and mortgage giants Fannie Mae and Freddie Mac were on the verge of failing.
The stock market plummeted, erasing wealth
Foreclosures continued to climb, causing the stock market to plummet and fall in September 2008, losing more than half of its value. The combined whammy of a collapsing property market and a plunging stock market resulted in massive losses for Americans. Between 2007 and 2011, one-quarter of all American families lost at least 75% of their wealth, and more than half of all families lost at least 25%.
What caused the financial crisis in the United States in 2008 quizlet?
What caused the financial crisis in the United States in 2008? The cost of housing in the United States has decreased. What do most Americans consider to be a globalization disadvantage? Jobs are being relocated to cheaper labor markets.
How did the United States emerge from the Great Recession of 2008?
Congress passed the Struggling Asset Relief Scheme (TARP) to empower the US Treasury to implement a major rescue program for troubled banks. The goal was to avoid a national and global economic meltdown. To end the recession, ARRA and the Economic Stimulus Plan were passed in 2009.
What caused the global recessions of 2008 and 2009?
- The Great Recession refers to the global financial crisis that occurred in 2008-2009.
- It all started with the housing market bubble, which was fueled by an overabundance of mortgage-backed securities (MBS) that packaged high-risk loans together.
- Reckless lending resulted in an unprecedented number of defaulted loans; when the losses were added up, several financial institutions failed, necessitating a government rescue.
- The American Recovering and Reinvestment Act of 2009 was enacted to help the economy recover.
What caused the downturn?
The Great Recession, which began in 2008 with the US subprime mortgage crisis, was caused by a number of factors, both directly and indirectly. Lax lending standards contributed to the real-estate booms that have since burst; U.S. government housing policies; and weak supervision of non-depository financial institutions were among the key causes of the original subprime mortgage crisis and the subsequent recession. When the recession hit, a variety of responses were tried, with varying degrees of effectiveness. These included government fiscal policies, central bank monetary policies, measures to assist indebted consumers refinance their mortgage debt, and countries’ differing approaches to bailing out troubled banking industries and private bondholders, such as assuming private debt burdens or socializing losses.
What was the impact of the 2008 recession?
When the decade-long expansion in US housing market activity peaked in 2006, the Great Moderation came to an end, and residential development began to decline. Losses on mortgage-related financial assets began to burden global financial markets in 2007, and the US economy entered a recession in December 2007. Several prominent financial firms were in financial difficulties that year, and several financial markets were undergoing substantial upheaval. The Federal Reserve responded by providing liquidity and support through a variety of measures aimed at improving the functioning of financial markets and institutions and, as a result, limiting the damage to the US economy. 1 Nonetheless, the economic downturn deteriorated in the fall of 2008, eventually becoming severe and long enough to be dubbed “the Great Recession.” While the US economy reached bottom in the middle of 2009, the recovery in the years that followed was exceptionally slow in certain ways. In response to the severity of the downturn and the slow pace of recovery that followed, the Federal Reserve provided unprecedented monetary accommodation. Furthermore, the financial crisis prompted a slew of important banking and financial regulation reforms, as well as congressional legislation that had a substantial impact on the Federal Reserve.
Rise and Fall of the Housing Market
Following a long period of expansion in US house building, home prices, and housing loans, the recession and crisis struck. This boom began in the 1990s and accelerated in the mid-2000s, continuing unabated through the 2001 recession. Between 1998 and 2006, average home prices in the United States more than doubled, the largest increase in US history, with even bigger advances in other locations. During this time, home ownership increased from 64 percent in 1994 to 69 percent in 2005, while residential investment increased from around 4.5 percent of US GDP to nearly 6.5 percent. Employment in housing-related sectors contributed for almost 40% of net private sector job creation between 2001 and 2005.
The development of the housing market was accompanied by an increase in household mortgage borrowing in the United States. Household debt in the United States increased from 61 percent of GDP in 1998 to 97 percent in 2006. The rise in home mortgage debt appears to have been fueled by a number of causes. The Federal Open Market Committee (FOMC) maintained a low federal funds rate after the 2001 recession, and some observers believe that by keeping interest rates low for a “long period” and only gradually increasing them after 2004, the Federal Reserve contributed to the expansion of housing market activity (Taylor 2007). Other researchers, on the other hand, believe that such variables can only explain for a small part of the rise in housing activity (Bernanke 2010). Furthermore, historically low interest rates may have been influenced by significant savings accumulations in some developing market economies, which acted to keep interest rates low globally (Bernanke 2005). Others attribute the surge in borrowing to the expansion of the mortgage-backed securities market. Borrowers who were deemed a bad credit risk in the past, maybe due to a poor credit history or an unwillingness to make a big down payment, found it difficult to get mortgages. However, during the early and mid-2000s, lenders offered high-risk, or “subprime,” mortgages, which were bundled into securities. As a result, there was a significant increase in access to housing financing, which helped to drive the ensuing surge in demand that drove up home prices across the country.
Effects on the Financial Sector
The extent to which home prices might eventually fall became a significant question for the pricing of mortgage-related securities after they peaked in early 2007, according to the Federal Housing Finance Agency House Price Index, because large declines in home prices were viewed as likely to lead to an increase in mortgage defaults and higher losses to holders of such securities. Large, nationwide drops in home prices were uncommon in US historical data, but the run-up in home prices was unique in terms of magnitude and extent. Between the first quarter of 2007 and the second quarter of 2011, property values declined by more than a fifth on average across the country. As financial market participants faced significant uncertainty regarding the frequency of losses on mortgage-related assets, this drop in home values contributed to the financial crisis of 2007-08. Money market investors became concerned of subprime mortgage exposures in August 2007, putting pressure on certain financial markets, particularly the market for asset-backed commercial paper (Covitz, Liang, and Suarez 2009). The investment bank Bear Stearns was bought by JPMorgan Chase with the help of the Federal Reserve in the spring of 2008. Lehman Brothers declared bankruptcy in September, and the Federal Reserve aided AIG, a significant insurance and financial services firm, the next day. The Federal Reserve, the Treasury, and the Federal Deposit Insurance Corporation were all approached by Citigroup and Bank of America for assistance.
The Federal Reserve’s assistance to specific financial firms was hardly the only instance of central bank credit expansion in reaction to the crisis. The Federal Reserve also launched a slew of new lending programs to help a variety of financial institutions and markets. A credit facility for “primary dealers,” the broker-dealers that act as counterparties to the Fed’s open market operations, as well as lending programs for money market mutual funds and the commercial paper market, were among them. The Term Asset-Backed Securities Loan Facility (TALF), which was launched in collaboration with the US Department of Treasury, was aimed to relieve credit conditions for families and enterprises by offering credit to US holders of high-quality asset-backed securities.
To avoid an increase in bank reserves that would drive the federal funds rate below its objective as banks attempted to lend out their excess reserves, the Federal Reserve initially funded the expansion of Federal Reserve credit by selling Treasury securities. The Federal Reserve, on the other hand, got the right to pay banks interest on their excess reserves in October 2008. This encouraged banks to keep their reserves rather than lending them out, reducing the need for the Federal Reserve to offset its increased lending with asset reductions.2
Effects on the Broader Economy
The housing industry was at the forefront of not only the financial crisis, but also the broader economic downturn. Residential construction jobs peaked in 2006, as did residential investment. The total economy peaked in December 2007, the start of the recession, according to the National Bureau of Economic Research. The drop in general economic activity was slow at first, but it accelerated in the fall of 2008 when financial market stress reached a peak. The US GDP plummeted by 4.3 percent from peak to trough, making this the greatest recession since World War II. It was also the most time-consuming, spanning eighteen months. From less than 5% to 10%, the jobless rate has more than doubled.
The FOMC cut its federal funds rate objective from 4.5 percent at the end of 2007 to 2 percent at the start of September 2008 in response to worsening economic conditions. The FOMC hastened its interest rate decreases as the financial crisis and economic contraction worsened in the fall of 2008, bringing the rate to its effective floor a target range of 0 to 25 basis points by the end of the year. The Federal Reserve also launched the first of several large-scale asset purchase (LSAP) programs in November 2008, purchasing mortgage-backed assets and longer-term Treasury securities. These purchases were made with the goal of lowering long-term interest rates and improving financial conditions in general, hence boosting economic activity (Bernanke 2012).
Although the recession ended in June 2009, the economy remained poor. Economic growth was relatively mild in the first four years of the recovery, averaging around 2%, and unemployment, particularly long-term unemployment, remained at historically high levels. In the face of this sustained weakness, the Federal Reserve kept the federal funds rate goal at an unusually low level and looked for new measures to provide extra monetary accommodation. Additional LSAP programs, often known as quantitative easing, or QE, were among them. In its public pronouncements, the FOMC began conveying its goals for future policy settings more fully, including the situations in which very low interest rates were likely to be appropriate. For example, the committee stated in December 2012 that exceptionally low interest rates would likely remain appropriate at least as long as the unemployment rate remained above a threshold of 6.5 percent and inflation remained no more than a half percentage point above the committee’s longer-run goal of 2 percent. This “forward guidance” technique was meant to persuade the public that interest rates would remain low at least until specific economic conditions were met, exerting downward pressure on longer-term rates.
Effects on Financial Regulation
When the financial market upheaval calmed, the focus naturally shifted to financial sector changes, including supervision and regulation, in order to avoid such events in the future. To lessen the risk of financial difficulty, a number of solutions have been proposed or implemented. The amount of needed capital for traditional banks has increased significantly, with bigger increases for so-called “systemically essential” institutions (Bank for International Settlements 2011a;2011b). For the first time, liquidity criteria will legally limit the amount of maturity transformation that banks can perform (Bank for International Settlements 2013). As conditions worsen, regular stress testing will help both banks and regulators recognize risks and will require banks to spend earnings to create capital rather than pay dividends (Board of Governors 2011).
New provisions for the treatment of large financial institutions were included in the Dodd-Frank Act of 2010. The Financial Stability Oversight Council, for example, has the authority to classify unconventional credit intermediaries as “Systemically Important Financial Institutions” (SIFIs), putting them under Federal Reserve supervision. The act also established the Orderly Liquidation Authority (OLA), which authorizes the Federal Deposit Insurance Corporation to wind down specific institutions if their failure would pose a significant risk to the financial system. Another section of the legislation mandates that large financial institutions develop “living wills,” which are detailed plans outlining how the institution could be resolved under US bankruptcy law without endangering the financial system or requiring government assistance.
The financial crisis of 2008 and the accompanying recession, like the Great Depression of the 1930s and the Great Inflation of the 1970s, are important areas of research for economists and policymakers. While it may be years before the causes and ramifications of these events are fully known, the attempt to unravel them provides a valuable opportunity for the Federal Reserve and other agencies to acquire lessons that can be used to shape future policy.
What were the two most important topics in the presidential election of 2008?
What were the most crucial topics in the 2008 presidential election? The government deficit has increased. What impact did Osama bin Laden’s death have on US foreign policy? It strained relations between the United States and Pakistan.
During the 2008 financial crisis, which two automakers received assistance from the US government?
According to Dziczek, the auto sector in the United States would still exist today if not for the bailout. However, it would be smaller and focused exclusively in the South’s lower-wage, nonunion assembly factories.
“Eventually, the economy would have returned to equilibrium,” Dziczek added. “The Upper Midwest, on the other hand, would have taken decades to recover from the blow. Government involvement saved General Motors and Chrysler, as well as the supply network that linked them to other firms like Ford, Honda, Toyota, and Nissan.”
According to the Bureau of Labor Statistics, auto manufacturing employment declined by more than one-third during the Great Recession, resulting in a loss of 334,000 jobs. According to a representative for the United Autoworkers, the union’s membership has dropped by 150,000. Those job losses were progressively reversed during the next decade, as automobile sales rebounded and production stepped up. In July 2016, employment in the auto manufacturing industry in the United States finally surpassed its pre-recession level (957,000 in December 2007). The UAW is still short of its pre-recession high of over 50,000 members.
Despite the bailout and rebirth of some auto-dependent areas, many union autoworkers are worse off financially than they were before the Great Recession, according to Dziczek. The bailouts resulted in a ten-year pay freeze for workers hired before 2007, with the highest hourly wage remaining at $28. Workers hired after 2007 were compensated on a two-tier wage-and-benefit scheme, with the lowest tier paying $16 an hour and the highest tier paying $20 an hour. The two-tier system is being phased out under the UAW’s 2015 contracts with GM, Ford, and Fiat Chrysler. By 2023, post-2007 recruits will have caught up to the top heritage compensation of $28 per hour.
The bailout, according to Dziczek, saved domestic automakers and spared catastrophic economic deterioration in auto-dependent areas throughout the Upper Midwest. Hundreds of thousands of autoworker jobs were also spared, according to her, despite the fact that many union autoworkers have lost ground economically. “The U.S. automakers had to pay a wage that was comparable with international producers in order to receive the funding,” she said. “The UAW evolved from wage setters to wage takers as a result of the loss of membership and negotiating ability.”
This story is part of a year-long project called Divided Decade, which looks at how the financial crisis transformed America.
(Updated November 14, 2018): In an earlier version of this story, the employment figures for auto manufacturing in the United States were wrong. The text has been updated to reflect the changes.
What financial consequences did the September 11th attacks have?
What financial consequences did the September 11th attacks have? Stock prices decreased as a result of the attacks, which generated panic in the stock market.