Explained: The Global Financial Crisis -The Biggest Recession

Every economy has its own economic cycle with its period of boom and depression. These periods can be manipulated using the policies of the government to some extent. But when it goes out of hand, then we end up facing an economic crisis. One such crisis that changed the course of history was the Global Financial Crisis of 2007-2009.

The Global Financial Crisis of 2008-2009 was the massive financial crisis the world faced from 2008 to 2009. The financial crisis took its toll on individuals and institutions around the globe, with millions of people being deeply impacted. This period created extreme stress in global financial markets and in the banking system. Numerous banks around the world suffered significant losses and needed government assistance to avoid going bankrupt. 

The 2007-08 financial crisis was followed by the Great Recession, which lasted until 2012. In most countries' economies and global markets, it was a period of general economic downturn.     

Beginning of Crisis

The 2008 financial crisis was the worst economic disaster since the Great Depression of 1929. Despite the efforts of the US Department of Treasury and the Federal Reserve, the GFC took place. The great recession led to a drop in housing prices. Even two years after the departure of the recession, unemployment was 9% above the normal rate.

In 2006, housing prices started to fall for the first time in decades which gave rise to this worst crisis in 2007. A bubble was created with low-interest rates and loose lending standards. With the aim of boosting the economy, the Federal Reserve lowered the federal funds rate from 6.5% in 2000 to 1% in 2003. However, borrowers took advantage of the policy and even the subprime borrowers were able to realize the dream of buying a house.

Unfold of GFC

Source: Youtube

• US house prices fell, borrowers missed repayments: The start of GFC was with rising in the number of default borrowers who were unable to repay their loans. As the house prices peaked, many of the borrowers started missing the due payments, and the crisis shoot up. 

• Stresses in the financial system: Some lenders and investors began to incur large losses because many of the houses they repossessed after the borrowers missed repayments could only be sold at prices below the loan balance. As a result, they started selling off their share of MBS and did not want to hold even for the short term, which further exacerbated MBS selling and declines in MBS prices.
  

• Failure of financial firms: Investors began withdrawing cash from banks and investment funds all throughout the world, unsure of who would be the next to fail or how exposed each institution was to subprime and other distressed loans. As a result, financial markets became dysfunctional as everyone attempted to sell at the same moment, and many organizations seeking new funding were unable to do so. As confidence plummeted, businesses and people both were less ready to invest and spend. As a result, the US and other economies entered their greatest recessions since the Great Depression.

• Slowing down of Trade due to GFC: The global financial crisis led to lower demand for goods and services, the drying up of credit availability, and rising protectionism. These factors drastically affected trade prices and volumes. The degree of trade openness was restricted. From mid-2008 onwards, prices of many commodities declined drastically. According to the latest data released by the IMF (2010), growth in emerging and developing economies’ exports volume, which had already slumped by more than a half between 2007 and 2008, fell to almost -12% in 2009. 
  

• Boom & Collapse of Banking System: The financial crisis of 2008 had a short-term impact on the banking sector, causing banks to lose money due to mortgage defaults, interbank lending to halt, and consumer and commercial credit to dry up. In the years following the crisis, the number of new foreign bank entries fell dramatically. The number of active foreign banks fell from 1,249 in 2007 to 1,229 in 2013 (after peaking at 1,295 in 2009). 
  

Conclusion

The Global Financial Crisis was indeed a great depression that was the reason for the slow growth of economies across the world. Despite the efforts of the US government and central bank, the crisis could not be controlled and the bubble was created which eventually lead to massive destruction. 

Written by- Srishti Kumar