As I see the financial crisis of 2008, the following steps outline what took place.
1. The US government encouraged – with considerable help from Fannie and Freddie – a large-scale expansion of mortgage lending to people who were unlikely to be able to pay back their loans, especially if home prices declined. These sub-prime mortgages were created on a large scale. The unusually low interest rates set by the Fed encouraged risk taking by artificially reducing mortgage rates, including through teaser loans. There is evidence that housing price inflation rose during this period – temporarily reducing foreclosure rates, which then bounced back during the housing bust.
2. Then the large American banks purchased and securitized these mortgages. Somehow, there was an assumption that the mortgages were sound because Fannie and Freddie stood behind them.
3. Gradually, it became clear that the securities backed by the mortgages were unsound. Nervousness took over as these securities began to lose their value.
4. Enter the federal government. The first domino to fall was a relatively small investment bank, Bear Stearns. Hank Paulson rushed in, doing what Goldman Sachs bankers do, and made a deal. He was aided and abetted by Ben Bernanke at the Federal Reserve who, in an unprecedented move, took over these useless securities. Paulson then worked out a deal with JPMorgan, which became the owner of the remnants of Bear Steans. This was a great deal for JPMorgan because the remnants without the bad mortgages were worth something. Bear Stearns, badly managed, was bailed out, thereby creating an atmosphere that problems could be averted with bailouts. Freddie and Fannie also were bailed out, never having been held accountable for the damage they did.
5. Then a major effort was made to bail out Lehman Brothers. Apparently, a deal was close but at the last minute, a British regulator took an action that aborted the scheme, causing Lehman Brothers to fail suddenly. That failure severely infected the atmosphere. We must note that there is a large difference between an orderly bankruptcy and a sudden one.
6. The Lehman Brothers failure was followed by concerns about the big banks and other organizations such as AIG and large organizations like GM, both of which were bailed out. AIG is especially interesting because it had a sound insurance business but acquired a business in questionable loans with major participants like Goldman Sachs. In some respects, the AIG bailout was a bailout of the Goldman Sachs of this world.
7. One of the principal lessons of the financial crises is the importance of accountability. Bailouts allow people and companies to escape the consequences of bad practices, but a system without accountability will not work in the long run. Americans love sports, and accountability is an essential part of any sport. In golf, you are the one who tees up the ball. You hit it and it comes to rest somewhere. Eventually you get it on the green. It’s up to you to decide on the speed and break in the green and how to make the putt. The ball comes to rest and it is either in the cup or it isn’t. There is nothing ambiguous about the result.
So one of the main lessons to learn from the financial crisis is the importance of holding institutions - large and small, and including the federal government – accountable for their actions.
Additional Reading
"Remarks on the Financial Crisis," by George P. Shultz, 2009
"Make Failure Tolerable," an excerpt from Ending Government Bailouts As We Know Them, 2009
FAQs
One of the principal lessons of the financial crises is the importance of accountability. Bailouts allow people and companies to escape the consequences of bad practices, but a system without accountability will not work in the long run. Americans love sports, and accountability is an essential part of any sport.
What are some important lessons from the 2008 financial crisis? ›
Policymakers were forced to make critical decisions with conviction and speed that helped formulate legislation and changes for the future.
- Too Big to Fail. ...
- Reducing Risk on Wall Street. ...
- Overheated Housing Market. ...
- Blame All Around. ...
- Investing in the Future.
Many of the practical implications that emerge from this history—including the heightened importance of risk management, board oversight, institutional culture, transparency and disclosure, as well as the increasing politicization of regulatory and criminal enforcement—apply to all companies across all sectors of the ...
What lessons can be learned from the 2007 2009 recession? ›
Disciplined investors know that diversifying their holdings is the best way to avoid the financial ruin that the risk of a single concentrated position can bring. Another lesson from the Great Recession was expense control. This can apply to corporations and individuals alike.
What were the key points of the financial crisis in 2008? ›
The crisis rapidly spread into a global economic shock, resulting in several bank failures. Economies worldwide slowed during this period since credit tightened and international trade declined. Housing markets suffered and unemployment soared, resulting in evictions and foreclosures. Several businesses failed.
What ethical lessons should we learn from the 2008 financial crisis? ›
One of the main lessons to learn from the financial crisis is the importance of holding institutions - large and small, and including the federal government –accountable for their actions.
What are the lessons learned from the banking crisis? ›
The crisis spread and banks such as First Republic, Signature Bank and Credit Suisse were caught off guard and suffered deadly consequences. This was a stark reminder to treasurers that banks can fail, and it's crucial to have a diverse pool of banking partners. Don't put all your eggs in one basket, as the adage goes.
How did the 2008 financial crisis affect society? ›
During this period, hundreds of banks failed, millions of homes went into foreclosure, and Americans lost over $14 trillion in net worth. Unemployment levels swelled from 5% in 2007 to 10% in 2009. A recession is defined as two consecutive quarters of contraction in gross domestic product (GDP).
Who benefited from the 2008 financial crisis? ›
However , while many individuals and businesses suffered , there were also some who profited from the crisis . One group that profited from the 2008 financial crisis was large banks and financial institutions .
What were the three most important causes of the 2008 financial crisis? ›
Main Causes of the GFC
- Excessive risk-taking in a favourable macroeconomic environment. In the years leading up to the GFC, economic conditions in the United States and other countries were favourable. ...
- Increased borrowing by banks and investors. ...
- Regulation and policy errors.
What could the government have done? The Bush administration could have reduced the outsized fiscal deficits that spurred foreign borrowing, and more generally could have acted to slow an overheated economy. The Federal Reserve could have raised lending rates to decelerate the credit boom.
What changed after the 2008 financial crisis? ›
The Dodd-Frank Wall Street Reform and Consumer Protection Act and the Emergency Economic Stabilization Act (EESA) which created the Troubled Asset Relief Program (TARP) helped to quell the financial crisis of 2008. The creation of the CFPB and FSOC helps to monitor financial institutions and protect consumers.
How was the financial crisis of 2008 solved? ›
In February 2009, under new President Barack Obama, Congress passed the $789 billion American Recovery and Reinvestment Act, which helped bring about an end to the economic recession. The stimulus package included $212 billion in tax cuts and $311 billion in infrastructure, education and health care initiatives.
How to understand the 2008 financial crisis? ›
The 2008 financial crisis began with cheap credit and lax lending standards that fueled a housing bubble. When the bubble burst, the banks were left holding trillions of dollars of worthless investments in subprime mortgages. The Great Recession that followed cost many their jobs, their savings, and their homes.
Which statement best summarizes the financial crisis of 2008? ›
Which statement best summarizes the financial crisis of 2008? Problems in the US economy caused the global economy to slow down, which made it harder for the United States to recover.
What was to blame for the 2008 financial crisis? ›
Everybody involved with the 2007–2008 financial crisis is partly to blame for the Great Recession: the government, for a lack of oversight; consumers, for reckless borrowing; and financial institutions, for predatory lending and unscrupulous bundling and selling of mortgage-‐backed securities.
What were the main effects of the 2008 financial crisis? ›
The housing market was deeply impacted by the crisis. Evictions and foreclosures began within months. The stock market, in response, began to plummet and major businesses worldwide began to fail, losing millions. This, of course, resulted in widespread layoffs and extended periods of unemployment worldwide.
How do you understand the 2008 financial crisis? ›
The 2008 financial crisis began with cheap credit and lax lending standards that fueled a housing bubble. When the bubble burst, the banks were left holding trillions of dollars of worthless investments in subprime mortgages. The Great Recession that followed cost many their jobs, their savings, and their homes.
What impact did the 2008 crisis have on the US economy? ›
Effects on the Broader Economy
The decline in overall economic activity was modest at first, but it steepened sharply in the fall of 2008 as stresses in financial markets reached their climax. From peak to trough, US gross domestic product fell by 4.3 percent, making this the deepest recession since World War II.
How did we overcome the 2008 financial crisis? ›
Emergency assistance in the form of bank bailouts was a major priority, as was fiscal stimulus. Congress employed many common antirecessionary policies, such as tax cuts and increases in unemployment insurance and food-stamp benefits, and these measures prevented the crisis from spreading further.
