Why did 2008 recession happen

Federal Reserve pushed interest rates to the lowest levels seen up to that time in the post-Bretton Woods era in an attempt to maintain economic stability. The Fed held low interest rates through mid Combined with federal policy to encourage home ownership, these low interest rates helped spark a steep boom in real estate and financial markets and a dramatic expansion of the volume of total mortgage debt.

Financial innovations such as new types of subprime and adjustable mortgages allowed borrowers, who otherwise might not have qualified otherwise, to obtain generous home loans based on expectations that interest rates would remain low and home prices would continue to rise indefinitely.

However, from through , the Federal Reserve steadily increased interest rates in an attempt to maintain stable rates of inflation in the economy.

As market interest rates rose in response, the flow of new credit through traditional banking channels into real estate moderated. Perhaps more seriously, the rates on existing adjustable mortgages and even more exotic loans began to reset at much higher rates than many borrowers expected or were led to expect.

The result was the bursting of what was later widely recognized to be a housing bubble. During the American housing boom of the mids, financial institutions had begun marketing mortgage-backed securities and sophisticated derivative products at unprecedented levels. When the real estate market collapsed in , these securities declined precipitously in value.

The credit markets that had financed the housing bubble, quickly followed housing prices into a downturn as a credit crisis began unfolding in The solvency of over-leveraged banks and financial institutions came to a breaking point beginning with the collapse of Bear Stearns in March The contagion quickly spread to other economies around the world, most notably in Europe.

As a result of the Great Recession, the United States alone shed more than 8. Bureau of Labor Statistics, causing the unemployment rate to double. S Department of the Treasury. The Great Recession's official end date was June The Dodd-Frank Act enacted in by President Barack Obama gave the government control of failing financial institutions and the ability to establish consumer protections against predatory lending.

The aggressive monetary policies of the Federal Reserve and other central banks in reaction to the Great Recession, although widely credited with preventing even greater damage to the global economy, have also been criticized for extending the time it took the overall economy to recover and laying the ground work for later recessions. This massive monetary policy response in some ways represented a doubling down on the early 's monetary expansion that fueled the housing bubble in the first place.

Along with the inundation of liquidity by the Fed, the U. These monetary and fiscal policies had the effect of reducing the immediate losses to major financial institutions and large corporations, but by preventing their liquidation they also keep the economy locked in to much of the same economic and organization structure that contributed to the crisis.

Not only did the government introduce stimulus packages into the financial system, but new financial regulation was also put into place. According to some economists, the repeal of the Glass-Steagall Act —the depression-era regulation—in the s helped cause the recession. The repeal of the regulation allowed some of the United States' larger banks to merge and form larger institutions.

Many homeowners who couldn't afford conventional mortgages were delighted to be approved for these interest-only loans. The creation of mortgage-backed securities and the secondary market helped end the recession.

It also created an asset bubble in real estate in The demand for mortgages drove up demand for housing, which homebuilders tried to meet. With such cheap loans , many people bought homes as investments to sell as prices kept rising.

Many of those with adjustable-rate loans didn't realize the rates would reset in three to five years. In , the Fed started raising rates. By the end of the year, the fed funds rate was 2. By the end of , it was 4. By June , the rate was 5. Homeowners were hit with payments they couldn't afford. These rates rose much faster than past fed funds rates. In , homebuilders finally caught up with demand. When supply outpaced demand, housing prices started to fall.

Falling home prices meant mortgage-holders could not sell their homes for enough to cover their outstanding loan. The Fed's rate increase couldn't have come at a worse time for these new homeowners. They couldn't afford the rising mortgage payments.

The housing market bubble burst. That created the banking crisis in , which spread to Wall Street in Deregulation in the financial industry was the primary cause of the financial crash. It allowed speculation on derivatives backed by cheap, wantonly-issued mortgages, available to even those with questionable creditworthiness.

Rising property values and easy mortgages attracted a lot of people to avail of home loans. This created the housing market bubble. This burst the bubble in Since home loans were intimately tied to hedge funds, derivatives, and credit default swaps, the resounding crash in the housing industry drove the U.

With its global reach, the U. To prevent this, the U. The financial crisis has similarities to the stock market crash. Both involved reckless speculation, loose credit, and too much debt in asset markets, namely, the housing market in and the stock market in University of Arkansas. Senate Banking Committee. New York Times. Although its effects were definitely global in nature, the Great Recession was most pronounced in the United States—where it originated as a result of the subprime mortgage crisis—and in Western Europe.

Subprime mortgages are home loans granted to borrowers with poor credit histories. Their home loans are considered high-risk loans.

With the housing boom in the United States in the early to mids, mortgage lenders seeking to capitalize on rising home prices were less restrictive in terms of the types of borrowers they approved for loans. And as housing prices continued to rise in North America and Western Europe, other financial institutions acquired thousands of these risky mortgages in bulk typically in the form of mortgage-backed securities as an investment, in hopes of a quick profit.

Although the U. A couple of months earlier, in February, the Federal Home Loan Mortgage Corporation Freddie Mac announced that it would no longer purchase risky subprime mortgages or mortgage-related securities.

With no market for the mortgages it owned, and therefore no way to sell them to recoup their initial investment, New Century Financial collapsed. Interestingly, on October 9, , the U.

Over the next 18 months, the Dow would lose more than half its value, falling to 6, points. As a result, hundreds of thousands of Americans who had significant portions of their life saving invested in the stock market suffered catastrophic financial losses. With the American economy teetering, the U.

Interest rates were at 5. By the end of , the Fed had reduced the target interest rate to zero percent for the first time in history in hopes of once again encouraging borrowing and, by extension, capital investment. In February , President George W. Bush signed the so-called Economic Stimulus Act into law. This last element was designed to, hopefully, generate new home sales and provide a boost to the economy. In March , investment banking giant Bear Stearns collapsed after attributing its financial troubles to investments in subprime mortgages, and its assets were acquired by JP Morgan Chase at a cut-rate price.

A few months later, financial behemoth Lehman Brothers declared bankruptcy for similar reasons, creating the largest bankruptcy filing in U. It was especially disastrous for investment bank Lehman Brothers. Unfortunately, by that point, the debt was worth almost nothing. When Lehman collapsed, declaring bankruptcy on September 15, panicked banks stopped lending almost completely and the entire global banking system became short of funds.

The stock market reacted sharply. With the global economy declining, international trade and industrial production fell at an even a faster rate than during the Great Depression of the s.

As consumer and business confidence was shattered, companies started massive layoffs and unemployment skyrocketed globally. Decisive action by the Federal Reserve , along with massive government spending, kept the US economy from total collapse. Aiming to boost borrowing and capital investment, the Fed reduced interest rates to zero for the first time ever and launched a quantitative easing program, whereby it bought financial assets to add more money into the economy.

As for the federal government, it creating two key programs aimed to provide emergency assistance:. These measures were effective, preventing the recession from developing into a decade-long affair, like the Great Depression. The stock market began to rebound in Still, other aspects of the economy took several years to recover — what economists characterize as an L-shaped recovery. The Great Recession officially lasted through June , but its effects have had a lasting impact.

The policies, reforms, programs and impact of the Great Recession are still with us today. Among the Great Recession's legacy:.

In , President Obama signed the Dodd-Frank Act into law, which aimed at reforming regulation of the financial industry. Some highlights include the ability for the government to take control of banks seen to be fiscally unsound, regulation of the over-the-counter derivatives market, including credit default swaps, and a requirement for banks to set aside more capital reserves as a cushion. It also included the Volcker Rule, which curbed banks proprietary trading for their own accounts and limited their dealings with hedge funds and private equity funds, among other steps.

Interest rates were at 5. But by the end of , the Fed slashed them to zero. Those low interest rates and swift, strong action to keep the economy moving are still hallmarks of the Fed today. For example, it moved quickly to lower interest rates in response to the economic turmoil caused by the COVID crisis.

The generation that came of age at the worst of the crisis, Millennials still feel the effects of the Great Recession. They have decreased savings and heavy student loan debt. They have a reluctance to buy homes and overall less wealth than previous generations at a comparable age. The Great Recession stands as one of the worst economic meltdowns in US history. Although the subprime mortgage crisis was the immediate cause, multiple interconnected financial factors caused the specialized-industry bubble burst to ripple out, bankrupting firms, crashing the stock market, and hobbling the whole economy.

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