Great Recession

The Great Recession is a marked global economic decline that began in December 2007 and took a particularly sharp downward turn in September 2008. The active phase of the crisis, which manifested as a liquidity crisis, can be dated from August 7, 2007 when BNP Paribas (one of the world’s largest global banking groups) terminated withdrawals from three hedge funds citing ‘a complete evaporation of liquidity.’

The bursting of the U.S. housing bubble, which peaked in 2006, caused the values of securities tied to U.S. real estate pricing to plummet, damaging financial institutions globally. The global recession affected the entire world economy, with higher detriment in some countries than others. As of December 2012, the economic side effects of the European sovereign debt crisis and limited prospects for global growth in 2013 and 2014 continue to provide obstacles to full recovery.

There are two senses of the word ‘recession’: a less precise sense, referring broadly to ‘a period of reduced economic activity,’ and the academic sense used most often in economics, which is defined operationally, referring specifically to the contraction phase of a business cycle, with two or more consecutive quarters of negative GDP growth. By the latter definition, the recession ended in the U.S. in June or July 2009. However, persistent high unemployment remains, along with low consumer confidence, and an increase in foreclosures and personal bankruptcies. In fact, a 2011 poll found that more than half of all Americans think the U.S. is still in recession or even depression, although economic data show a historically modest recovery. This could be due to the fact that both private and public levels of debt are at historic highs in the U.S. and in many other countries, and an increasing number of economists believe that excessive debt plays a role in causing bank crises, lengthy depressions, and sovereign default.

According to the U.S. National Bureau of Economic Research (the official arbiter of U.S. recessions) the recession began in December 2007 and ended in June 2009. US mortgage-backed securities, which had risks that were hard to assess, were marketed around the world. A more broad based credit boom fed a global speculative bubble in real estate and equities, which served to reinforce the risky lending practices. The precarious financial situation was made more difficult by a sharp increase in oil and food prices. The emergence of sub-prime loan losses in 2007 began the crisis and exposed other risky loans and over-inflated asset prices. With loan losses mounting and the fall of Lehman Brothers on September 15, 2008, a major panic broke out on the inter-bank loan market. As share and housing prices declined, many large and well established investment and commercial banks in the United States and Europe suffered huge losses and even faced bankruptcy, resulting in massive public financial assistance.

A global recession has resulted in a sharp drop in international trade, rising unemployment and slumping commodity prices. In December 2008, the National Bureau of Economic Research (NBER) declared that the United States had been in recession since December 2007. Several economists predicted that recovery might not appear until 2011 and that the recession would be the worst since the Great Depression of the 1930s. Paul Krugman, Nobel Laureate in Economics, once commented on this as seemingly the beginning of ‘a second Great Depression.’ The conditions leading up to the crisis, characterized by an exorbitant rise in asset prices and associated boom in economic demand, are considered a result of the extended period of easily available credit and inadequate regulation and oversight. The recession has renewed interest in Keynesian economic ideas on how to combat recessionary conditions. Fiscal and monetary policies have been significantly eased to stem the recession and financial risks. Economists advise that the stimulus should be withdrawn as soon as the economies recover enough to ‘chart a path to sustainable growth.’

The central debate about the origin of the Great Recession has been focused on the respective parts played by the public monetary policy (in the US notably) and by the practices of private financial institutions. In the U.S., mortgage funding was unusually decentralized, opaque, and competitive, and it is believed that competition between lenders for revenue and market share contributed to declining underwriting standards and risky lending. Several analysts, such as Peter Wallison and Edward Pinto of the American Enterprise Institute (a conservative think tank), have asserted that private lenders were encouraged to relax lending standards by government affordable housing policies. Another critic notes that, in 1995, Fannie Mae and Freddie Mac created automated underwriting and automated valuation systems that led to a dramatic relaxation of lending standards throughout the industry. He also asserts that these two GSEs (Government-sponsored enterprises) made massive purchases of substandard loans. Although other analysts dispute these assertions and claim that Fannie Mae and Freddie Mac only bought high-quality loans, a criminal fraud case filed by the SEC in December 2011 suggests otherwise. Wallison and Pinto analyzed the SEC charges and estimated that, as of June 2008, Fannie and Freddie held over $2 trillion in such substandard loans.

On October 15, 2008, Anthony Faiola, Ellen Nakashima, and Jill Drew wrote a lengthy article in ‘The Washington Post’ titled, ‘What Went Wrong.’ In their investigation, the authors claim that former Federal Reserve Board Chairman Alan Greenspan, Treasury Secretary Robert Rubin, and SEC Chairman Arthur Levitt vehemently opposed any regulation of financial instruments known as derivatives. They further claim that Greenspan actively sought to undermine the office of the Commodity Futures Trading Commission, specifically under the leadership of Brooksley E. Born, when the Commission sought to initiate regulation of derivatives. Ultimately, it was the collapse of a specific kind of derivative, the mortgage-backed security, that triggered the economic crisis of 2008.

While Greenspan’s role as Chairman of the Federal Reserve has been widely discussed (the main point of controversy remains the lowering of the Federal funds rate to 1% for more than a year, which allowed huge amounts of ‘easy’ credit-based money to be injected into the financial system and thus create an unsustainable economic boom), the argument has also been made yjay Greenspan’s actions in 2002–2004 were actually motivated by the need to take the U.S. economy out of the early 2000s recession caused by the bursting of the dot-com bubble—although by doing so he did not help avert the crisis, but only postpone it.

Some economists have claimed that the ultimate point of origin of the financial crisis of 2007–2010 can be traced back to an extremely indebted US economy. High private debt levels also impact growth by making recessions deeper and the following recovery weaker. In the US total debt now is about 350% of GDP and that number is among the highest ever recorded. Political economist Robert Reich claims the amount of debt in the US economy can be traced to economic inequality, assuming that middle-class wages remained stagnant while wealth concentrated at the top, and households ‘pull equity from their homes and overload on debt to maintain living standards.’

The US has seen an increasing concentration of wealth to the detriment of the middle class and the poor with the younger generations being especially affected. The middle class dropped from 61% of the population in 1971 to 51% in 2011 as the upper class increased its take of the national income from 29% in 1970 to 46% in 2010. The share for the middle class dropped to 45%, down from 62% while total income for the poor dropped to 9% from 10%. Since the number of poor increased during this period the smaller piece of the pie (down to 9% from 10%) is spread over a greater portion of the population. The portion of national wealth owned by the middle class and poor has also dropped as their portion of the national income has dropped, making it more difficult to accumulate wealth. The younger generation, which would be just starting their wealth accumulation, has been the most hard hit. Those under 35 are 68% less wealthy then they were in 1984, while those over 55 are 10% wealthier.

In January 2009 the government leaders of Iceland were forced to call elections two years early after the people of Iceland staged mass protests and clashed with the police due to the government’s handling of the economy. Hundreds of thousands protested in France against President Sarkozy’s economic policies. In late February many Greeks took part in a massive general strike because of the economic situation and they shut down schools, airports, and many other services in Greece. Protests have also occurred in China as demands from the west for exports have been dramatically reduced and unemployment has increased. In late 2011, the Occupy Wall Street protest took place in the United States, spawning several offshoots that came to be known as the Occupy movement.

The financial phase of the crisis led to emergency interventions in many national financial systems. As the crisis developed into genuine recession in many major economies, economic stimulus meant to revive economic growth became the most common policy tool. After having implemented rescue plans for the banking system, major developed and emerging countries announced plans to relieve their economies. In particular, economic stimulus plans were announced in China, the United States, and the European Union. Bailouts of failing or threatened businesses were carried out or discussed in the USA, the EU, and India. In the final quarter of 2008, the financial crisis saw the G-20 group of major economies assume a new significance as a focus of economic and financial crisis management.

Most political responses to the economic and financial crisis has been taken by individual nations. Some coordination took place at the European level, but the need to cooperate at the global level has led leaders to activate the G-20 major economies entity. A first summit dedicated to the crisis took place, at the Heads of state level in November 2008 in Washington DC. Apart from proposals on international financial regulation, they pledged to take measures to support their economy and to coordinate them, and refused any resort to protectionism. In later meetings they committed to maintain the supply of credit by providing more liquidity and recapitalizing the banking system, and to implement rapidly the stimulus plans. As for central bankers, they pledged to maintain low-rates policies as long as necessary. Finally, the leaders decided to help emerging and developing countries, through a strengthening of the IMF.

The IMF stated in September 2010 that the financial crisis would not end without a major decrease in unemployment as hundreds of millions of people were unemployed worldwide. The IMF urged governments to expand social safety nets and to generate job creation even as they are under pressure to cut spending. Governments should also invest in skills training for the unemployed and even governments of countries like Greece with major debt risk should first focus on long-term economic recovery by creating jobs. The Roosevelt Institute, a progressive organization, has argued that economic short-termism, a narrow focus on the ‘fiscal cliff’ and the ‘debt ceiling’ and the corresponding threats of automatic cuts in federal spending could imperil a fragile recovery. Instead, it called for calibrated stimulus spending across key public infrastructures and social services that would ‘benefit the nation as a whole and put America back on the path to long term growth.’

Poland is the only member of the European Union to have avoided a decline in GDP, meaning that in 2009 Poland has created the most GDP growth in the EU. As of December 2009 the Polish economy had not entered recession nor even contracted. Analysts have identified several causes: Extremely low levels of bank lending and a relatively small mortgage market; the recent dismantling of EU trade barriers and the resulting surge in demand for Polish goods since 2004; the receipt of direct EU funding since 2004; lack of over-dependence on a single export sector; a tradition of government fiscal responsibility; a relatively large internal market; the free-floating Polish zloty; low labor costs attracting continued foreign direct investment; and economic difficulties at the start of the decade which prompted austerity measures in advance of the world crisis.

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