What was the Great Recession?
The Great Recession was a sharp decline in economic activity during the late 2000s. This is considered the most significant decline since the Great Depression. The term “Great Recession” refers to both the US recession, which officially lasted from December 2007 to June 2009, and the subsequent global recession in 2009.
The economic downturn began when the US housing market went from boom to bust and large amounts of mortgage-backed securities (MBS) and derivatives lost significant value.
The Great Recession Highlights
- The Great Recession refers to the economic downturn from 2007 to 2009 following the bursting of the US housing bubble and the global financial crisis.
- The Great Recession was the most severe economic recession in the United States since the Great Depression of the 1930s.
- In response to the Great Recession, federal authorities unleashed unprecedented fiscal, monetary and regulatory policies, which some, but not all, attribute to the subsequent recovery.
Understanding the Great Recession
The term “great recession” is a play on the term “great depression”. The official depression occurred during the 1930s and was characterized by a decline in gross domestic product (GDP) of more than 10% and an unemployment rate that at one point reached 25%.
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Although there are no explicit criteria for distinguishing a depression from a severe recession, there is near consensus among economists that the downturn of the late 21st century was not a depression. During the Great Recession, US GDP shrank by 0.3% in 2008 and 2.8% in 2009, while unemployment briefly reached 10%. However, this event is undoubtedly the worst economic downturn in recent years.
What was the Reason Behind the Great Recession
According to a 2011 Financial Crisis Inquiry report, the Great Recession was preventable. The appointees, who included six Democrats and four Republicans, cited several key factors they said led to the decline.
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First, the report identified the government’s failure to regulate the financial industry. This regulatory failure included the Fed’s failure to curb toxic mortgage lending.
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Furthermore, there were too many financial companies that were taking too much risk. The shadow banking system, which included investment firms, grew up to compete with the depository banking system, but was not subject to the same supervision or regulation. When the shadow banking system failed, the result affected the flow of credit to consumers and businesses.
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Other causes cited in the report included excessive borrowing by consumers and corporations and lawmakers unable to fully understand the collapsing financial system. This created asset bubbles, especially in the housing market, as mortgages were provided at low interest rates to unqualified borrowers who could not repay them. This caused housing prices to drop and left many more homeowners underwater. This subsequently severely affected the market for mortgage-backed securities (MBS) held by banks and other institutional investors.
Origins and consequences of The Great Recession
In the wake of the 2001 Dotcom bubble and subsequent recession, along with the September 11, 2001 attacks on the World Trade Center, the US Federal Reserve pushed interest rates down to the lowest levels seen up to that point in the post-Bretton Woods era. an attempt to maintain economic stability. The Fed kept interest rates low until mid-2004.
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Combined with federal policies to promote home ownership, these low interest rates helped trigger a steep boom in the real estate and financial markets and a dramatic increase in the amount of total mortgage debt. Financial innovations such as new types of subprime and adjustable rate mortgages allowed borrowers who might not have otherwise qualified to obtain generous home loans based on the expectation that interest rates would remain low and home prices would continue to rise indefinitely.
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However, from 2004 to 2006, the Federal Reserve raised interest rates continuously in an effort to maintain a stable rate of inflation in the economy. As market interest rates rose in response, the flow of new real estate loans through traditional banking channels moderated. Perhaps more seriously, rates on existing adjustable rate mortgages and even more exotic loans have begun to change to much higher rates than many borrowers expected or were led to expect. The result was the bursting of what was later widely recognized as a real estate bubble.
During the American housing boom of the mid-2000s, financial institutions began offering mortgage-backed securities and sophisticated derivatives at unprecedented levels. When the real estate market crashed in 2007, the value of these securities plummeted. The credit markets that financed the real estate bubble quickly followed the fall in house prices into a recession as the credit crunch began to unfold in 2007. The solvency of over-leveraged banks and financial institutions has reached a breaking point that began with the collapse of Bear Stearns in March. 2008.
Things came to a head later that year with the bankruptcy of Lehman Brothers, the nation’s fourth largest investment bank, in September 2008. The contagion quickly spread to other economies around the world, especially in Europe. As a result of the Great Recession, the United States alone lost more than 8.7 million jobs, causing the unemployment rate to double, according to the U.S. Bureau of Labor Statistics. American households also lost roughly $19 trillion in net worth as a result of the stock market slump, according to the U.S. Treasury Department. The official end date of the Great Recession was June 2009.
The Dodd-Frank Act passed in 2010 by President Barack Obama gave the government control over failing financial institutions and the ability to enact consumer protections against predatory lending.
The Great Recession Impacts on Economy
Aggressive monetary policy by the Federal Reserve and other central banks in response to the Great Recession, while widely credited with preventing further damage to the global economy, has also been criticized for prolonging the time it took for the entire economy to recover and for laying the groundwork for a later recession.
1. Monetary and fiscal policy
For example, the Fed cut the key interest rate to near zero to support liquidity and, in an unprecedented move, provided $7.7 trillion in emergency loans to banks as part of a policy known as quantitative easing (QE). This massive monetary policy response was in some ways a doubling down on the monetary expansion of the early 2000s that fueled the housing bubble in the first place.
Along with the flood of liquidity from the Fed, the US federal government embarked on a massive fiscal policy program to try to stimulate the economy in the form of $787 billion in deficit spending under the American Recovery and Reinvestment Act, according to Congress. Budget Office. These monetary and fiscal policies have had the effect of reducing the immediate losses of large financial institutions and large companies, but by preventing their liquidation, they also keep the economy locked in the same economic and organizational structure that contributed to the crisis.
The Dodd-Frank Act
The government not only introduced stimulus packages to the financial system, but new financial regulation was also introduced. According to some economists, the repeal of the Glass-Steagall Act—a Depression-era regulation—helped cause the recession in the 1990s. The repeal of the regulation allowed some of the larger United States banks to merge to form larger institutions. In 2010, President Barack Obama signed the Dodd-Frank Act, which gives the government expanded regulatory authority over the financial sector.
The law gave the government some control over financial institutions that were deemed to be on the brink of failure and helped establish consumer protections against predatory lending.
However, critics of Dodd-Frank note that the players and institutions in the financial sector that actively managed and profited from predatory lending and related practices during the real estate and financial bubbles were also deeply involved in both the drafting of the new law and the drafting of the new law and the accused authorities Obama administration. with its implementation.
The US federal government spent $787 billion in deficit spending in an effort to stimulate the economy during the Great Recession under the American Recovery and Reinvestment Act, according to the Congressional Budget Office.
Recovery from the Great Recession
After (some would argue despite) these policies, the economy gradually recovered. Real GDP bottomed out in the second quarter of 2009 and regained its pre-recession peak in the second quarter of 2011, three and a half years after the initial onset of the official recession. Financial markets recovered as a flood of liquidity flooded Wall Street in particular.
The Dow Jones Industrial Average (DJIA), which had lost more than half its value from its August 2007 high, began to recover in March 2009 and broke through its 2007 high four years later in March 2013. For workers and households, the picture was less pink. Unemployment was at 5% at the end of 2007, peaked at 10% in October 2009, and did not return to 5% until 2015, nearly eight years after the recession began. Real median household income did not surpass its pre-recession level until 2016.
Critics of the political response and how it shaped the recovery argue that the tidal wave of liquidity and deficit spending heavily favored politically connected financial institutions and big business at the expense of ordinary people, and may have actually delayed the recovery by tying up real economic resources in industries and activities. which deserved to fail and their assets and resources fell into the hands of new owners who could use them to create new businesses and jobs.
How long did the Great Recession last?
According to official data from the Federal Reserve, the Great Recession lasted eighteen months, from December 2007 to June 2009.
Did the Great Recession turn into a recession?
Not officially. While the economy suffered and markets suffered following the outbreak of the global COVID-19 pandemic in early 2020, stimulus efforts were effective in preventing a full-blown US recession. However, some economists worry that a recession could still be on the way. horizon from mid-2022.
How Much Did the Stock Market Crash During the Great Recession?
On October 9, 2007, the Dow Jones Industrial Average reached its pre-recession high, closing at 14,164.53. By March 5, 2009, the index had fallen more than 50% to 6,594.44.
September 29, 2008. The Dow Jones fell nearly 778 points on the day. Until the March 2020 market crash at the start of the COVID-19 pandemic, this was the largest point drop in history.