When we talk about the great recession, we refer to the economic crash that happened between 2008 and 2013. The recession began after the 2007/08 global credit collapse and led to a big period of low and negative growth and rising unemployment. In particular, the great recession highlighted problems within the Eurozone which experienced a double dip recession and high unemployment.
Causes of great recession
The primary cause of the great recession was the credit crunch (2007-08). Here we take a look on why bad debts and concessions in the US housing market had such a big effect on economies in the US and Europe.
In summary:
1. Credit crunch led to a fall in bank lending, due to a shortage of liquidity.
2. Fall in consumer and business confidence result from the financial instability.
3. Fall in exports from the global recession.
4. Fall in house prices led to negative wealth effects.
5. Fiscal austerity formed the initial fall in GDP.
6. In Europe, the single currency created additional problems because of over-valued exchange rates, and high bond yields.
More details on causes of great recession
1. Great moderation. From 2000 to 2007 it was a time of strong economic growth, low inflation rates and falling unemployment. Central Banks seemed to be successful in targeting low inflation rates and ensuring economic stability. But underneath the macro-economic stability, there was a growing instability regarding credit and financial markets.
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2. Housing bubble. Many countries experienced a rapid growth in house prices. House price rose faster than inflation and faster than incomes. This boom in housing was encouraged by a growth in bank lending and high confidence. Several countries, such as Ireland and Spain also experienced a boom in house building.
3. Bad loans. In the period leading up to the credit crunch, banks became more aggressive and willing to take risks in lending. Especially in America, banks and mortgage companies loosened their criteria for giving mortgages. Many homeowners were given large mortgages, with limited checks on their ability to repay. However, in the economic downturn, people were left with mortgages they couldn’t afford.
4. Bad loans repacked and resold. These ‘bad’ mortgage loans were sold onto other financial institutions around the world. For example, many UK and European banks bought these mortgage bundles from the US (CDOs) and so were exposed to any potential losses in the US housing market.
5. Housing Bubble Burst. In 2006, the US housing market bubble burst. House prices started to fall, and there was a rise in mortgage defaults. Banks began to realise they had lost significant sums of money through the US mortgage defaults.
Banks short of liquidity. The scale of bank losses started to increase and it became harder for banks to borrow money on money markets. This caused banks to reduce loans and mortgages. Because banks were losing money, it became challenging to get credit and liquidity. Some banks lost so much they were running out of money. In several countries, such as UK, Ireland and US, major banks had to be bailed out by the government. But, the realisation banks were short of liquidity harmed consumer and investor confidence. The fall in confidence led to lower spending and investment.
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