The 2007-2009 Recession - Literature review Example

The 2007-2009 Recession

A recession can be characterized by, a fall of commodities and services created as well as sold when a business cycle experiences a downtown and when the economic activities slow down (Davis, Bob, 27 April 2012). The National Bureau of Economic Research which officially arbitrates the U.S recessions says that ten recessions were experienced in 1948-2011. However, the most current one started in 2007 December and came to an end in 2009 June. In the 1930s, the U.S economy faced a great depression but after that, it went through a vigorous growth, experiencing minor recessions in the whole of the 20th century. The Chandler Act and Securities Exchange Act were enforced by the federal government in 1934 and 1938 respectively which controlled the financial markets actively. The 1934 securities exchange standardized trade of secondary securities in the market whiles the Chandler Act regulated the banking division transactions. The investment banks were less and by standards today; they were small although during the late 1970s they expanded like JP Morgan.

According to (Davis, Bob, 27 April 2012), the governance of Reagan at the beginning of the 1980s started deregulation of finance which lasted for thirty years. This resulted in a sharp expansion of financial sector partly as the investment banks went public, generating them large amounts of capital stock. Between 1978 -2008, the workers who were not in the investment banks min the U.S saw their average salary increase by 25 percent from 40000 to 50,000 U.S dollars whereas those in the investment banking experienced a pay rise of 150 percent, from 40, 000 to 100,000 U.S dollars. Through deregulation also, there was precipitation of financial fraud frequently attached to real estate investments as well as grand scales like loan and savings crisis. By late 1980s, some employees who worked in the financial sector were going to jail because of fraud, though many Americans were missing their lifetime savings. Huge investment banks started merging and increasing financial companies which resulted in the creation of enormous investment banks such as Goldman Sachs.

The recession started with 8 trillion dollar bursting of the housing bubble. It resulted in wealth loss which in turn resulted in quick cut-down in consumer expenditure. The loss of spending, together with chaos in the financial markets caused by the bursting of the bubble, additionally led to business investment collapse. The dry up of business investments and consumer expenditure also resulted in immense job loss. Between 2008 and 2009, the labor market in the U.S lost 8.4 millions of jobs/ 6.1 percent of the entire payroll employment. Thus, this contraction in employment was by far the most staged in all recessions, after the great depression. Compared with the 1981 deep recession, it was by half severe with 3.1 percent loss of jobs. With the extension lasting for eighteen months, the years which led to the crisis were described by an excessive increase in prices of assets and related economic demand boom. Moreover, the shadow banking system of the U.S which is the non-depository financial organizations like investment banks had developed to compete with the depository institutions although it did not matter to the regulatory supervision, exposing it to a bank run (Mark Hulbert, June 15, 2011).

As a result of increased loan losses and the collapse of Lehman Brothers on September 15, 2008, there was a breakout of a major fear on the loans between individual banks (Zuckerman, Mortimer, 2011-07-26). Also, a similar bank run happened on the shadow system of banking, resulting in several prominent and well recognized commercial and investment banks in the U.S and Europe experiencing massive losses and yet facing bankruptcy, leading to enormous government bailouts (public assistance in finance). The resulting recession globally resulted in sharp fall in international trade, increasing unemployment and decreasing prices of products. Many economists forecasted that recovery would appear in 2011 where the recession was to be the worst from the time when great depression occurred in the 1930s. However, the central banks and federal governments acted in response through monetary and fiscal policies in the stimulation of economies and reduction of risks in the financial systems.

Causes of the recession

According to (Evans-Schaefer, Steve, 2010-10-20), the imbalances in trade and bubbles of debt were one of the causes of the recessions. Investments inflows in dollars which the U.S required funding deficit in trade majorly caused the financial crisis and the housing bubble. In the 1990s, the trade deficit was below one percent, but it rose to 6% during 2006. Foreign savings inflows were used to finance the deficit particularly from the Middle East and East Asia. A larger amount of money was used in fraudulent mortgages in purchasing houses which were overvalued, which led to financial crisis. Evidently, a huge savings inflow flowed from underdeveloped countries to the mortgage market, motivating the housing bubble in U.S. There was a fixed pool of income savings growing from about thirty-five trillion U.S dollars to as of 2000 to around seventy trillion U.S dollars by 2008.

The monetary policy in U.S and the practices of privately owned financial firms also led to the recession. The financing of mortgages was uncommonly decentralized, competitive and opaque. There was a belief that rivalry between market share and income lenders contributed to decreasing standards of underwriting and dangerous lending. A lot of easy money for credit was injected into the monetary system creating economic boom which was unsustainable (Yoshie Furuhashi, 2011-05-26). Besides, the activities of Greenspan between 2002 and 2003 to turn away U.S economy from the recession of near the beginning 2000s originating from dot-com bubble bursting did not prevent the crisis but postponed them. High levels of private debts also led to the recession. As 2007 was coming to an end, the debt of households in U.S as a yearly personal disposable income percentage was 127 percent as opposed to 77 percent during 1990. As the mortgages payments increased, and the need to adjust to the payments went up, many households started defaulting which rendered the securities which were backed by mortgages valueless. The levels of private debts also up surged, impacting on growth through deepening the recession and the subsequent recovery weaker.

There was also an inappropriate regulation which promoted lax standards of lending. The lax was encouraged by reasonable housing policies implemented by the government. The 1992 accommodation and community growth Act which at first postulated that thirty percent or above of the loan purchases from Freddie and Fannie be associated with affordable pricing. The rule offered HUD the authority to lay down future necessities and finally a fifty-six percent least amount was set up. Freddie Mac and Fannie Mae came up with plans of buying five trillion U.S dollars in inexpensive housing loans, encouraging lenders to loosen up the principles of underwriting to create the loans (United Nations, January 25, 2013).

A common derivative known as a credit-default swap (CDS) which is hardly regulated or unregulated allowed speculators to place bets on the matching mortgage securities. It is similar to enabling various people to purchase insurance for the same house (United Nations, January 25, 2013). Some speculators bought the CDS and betted that there would be the occurrence of significant defaults in mortgage security as the sellers betted that there would be no default. As a result of immense defaults on the underlying mortgage securities, firms which sold CDS were not able to perform their obligation and failed to pay which made U.S taxpayers to pay above 100 billion U.S dollars to international financial corporations in honoring their bonds, thus generated substantial outrage.

Finally, the shadow banking system was the center of recession and the crisis. The expansion of the shadow banking system in an attempt to rival or still exceed importance of conservative investment made the officials in government and politicians to re-create the type of financial exposure which completed the possibility of the great depression. However, they never responded through the extension of regulations as well as the safety net of finance in covering the new institutions. In 2008, the three largest investment banks in U.S were either declared bankrupt or sold at low prices to further banks. The investment banks had no strict regulations compared to depository banks. The lacks of stringent control increased the unsteadiness in the worldwide financial system.

Effects of the recession

(Wingfield, Brian, 2010-09-20) States that first, there was contraction of real gross domestic product (GDP) in 2008 which began growing in 2010. In addition, the rate of employment rose to ten percent at the end of 2009 from 5 per cent of 2008 pre-crisis 2008 but slowly reduced to 7.3 percent by 2013 March. The total figure of those unemployed grew from around seven million during 2008 to fifteen million in 2009, then fell to twelve million in early 2013. Also, privately owned residential investments dropped to 400 billion U.S dollars in the middle of 2009, from 800 billion U.S dollars before the peak of pre-crisis in 2006. Investments which are not residential were at peak in 2008 at 1,700 billion U.S dollars and declined to 1,300 billion dollars during 2010, though during 2013 they had almost improved to the peak. Similarly, prices of housing dropped about thirty percent averagely from the mid of 2006 peak to the mid of 2009 and stayed at that level approximately as at 2013 March. Besides, prices in stock market which are measured through the S&P index reduced by 57 percent from their peak of 2007 October (1,565) to a depression of 676 as of 2009 March.

Conversely, the stock prices started a steady rise afterward and got back to proof levels in 2013 April. U.S Non-profit organizations and households' net worth decreased from an approximate of 67 trillion U.S dollars peak of 2007 to 52 trillion U.S dollar trough during 2009 which was a 22% decline. It began recovering later and in 2013, it was 66 trillion U.S dollars. The total nationwide debt of U.S augmented to above 103 percent near 2012 end from 66 percent GDP during 2008 pre-crisis. For many, the levels of income have reduced considerably whereby the median male employee was making 32, 137 U.S dollars in 2010, and revenue which was adjusted for inflation of 32,844 U.S dollars during 1968. The 2007-2009 recession is considered as the worst downturn in the economy from the time of the great depression and the next economic revival among the weakest. The weak performance in the economy from 2000 has experienced a fall in adults who are working percentage from 64 percent to 58 percent which mostly dropped in 2007. (Wingfield, Brian, 2010-09-20).

Evidently, the 2007-2009 recession had many negative impacts on the U.S economy. Most significantly, there was massive unemployment and slower economic growth and even after the stoppage of economic contraction in the 2009 summer, the increase in the economy has not been able to grow fast to create jobs for the growing population. The rate of recovery from the great recession has also been slow, and it has taken time for U.S to recover fully. Proper fiscal and monetary policies must be implemented by the federal government to address the adverse effects of the recession and spur economic growth. The loss of jobs is during the great recession is a sign that incomes of households have declined, poverty has increased, and both children and adults have missed health insurance. The fall in the stock market and housing bubble bursting means that the wealth of families has dramatically decreased and per capita income reduced.

Work Cited

Davis, Bob (27 April 2012). "What's a Global Recession?". The Walstreet Journal. Retrieved 17 September 2013.

Evans-Schaefer, Steve (2010-10-20). "Street Rallies Around Official Recession End." Forbes. Archived from the original on 2012-09-20.

Mark Hulbert (June 15, 2011). "It is Dippy to Fret About a Double-Dip Recession".

Rutenberg, Jim; Thee-Brenan, Megan (2011-06-24). "Nation's Mood at Lowest Level in Two Years, Poll Shows." The New York Times.

United Nations (January 25, 2013). World Economic Situation and Prospects 2013 (trade paperback) (1st ed.). United Nations. p. 200. ISBN 978-9211091663. The global economy continues to struggle with post-crisis adjustments.

Wingfield, Brian (2010-09-20). "The End Of The Great Recession? Hardly". Forbes.

"World Economic Outlook - April 2009: Crisis and Recovery" (PDF). Box 1.1 (page 11-14). IMF. 26 April 2012. Retrieved 18 November 2013.

"World Economic Situation and Prospects 2013." Development Policy and Analysis Division of the UN secretariat. Retrieved June 20, 2012.

Yoshie Furuhashi (2011-05-26). "Dean Baker, "Further House Price Declines in the United States." Mrzine.monthlyreview.org. Retrieved 2013-08-17.

Zuckerman, Mortimer B. (2011-07-26). "The National Debt Crisis Is an Existential Threat." Usnews.com. Retrieved 2013-08-17.