The market crash of 2008 was the biggest financial disaster after the Great Depression of the 1930s.
The ones who withstand the year of crisis, that is, 2008, would for sure never forget the turmoil they went through. Setting its foot right from 2007, when the breakdown of US subprime mortgages aroused the crisis subsequently took over Lehman Brothers in the later 2008.
Origin of Crisis
Although the crisis was triggered when the US housing bubble was at its peak in 2006-2007, the stage started settings right after the 9/11 terrorist attack.
After the terrorist attack, the US economy witnessed a recession which compelled the Federal Reserve System (Fed) to bring down its interest rate to 1%. Since 1% interest was too low, the fixed-income investors started looking for a new prospect, who used to rely on US treasury bills.
Investment banks were well aware of the situation. With a motive to take advantage that could work in their favor, they started implementing their financial wizards on mortgages, securitizing them into Mortgage-Backed Security, a form of asset-backed securities.
Such MBS increased diversification as they collected geographically dispersed mortgages while simultaneously decreasing the risk.
Thereafter multiple leading banks, including Goldman Sachs and Bear Stearns, started packaging MBS and created their independent Collateralized Debt Obligation (CDO), which were divided into multiple sections depending upon the credit quality of the borrower.
Such financial innovations integrated both institutions and investors to invest in the US housing market. In this testing times the help from professionals like Lifestyles Unlimited can be really helpful for investors.
The Crisis Unfolds
But the problem arose when the banks witnessed the citizens take out mortgages.
Acknowledging that commercial banks and insurance companies are the two primary regulators of the financial industry, the insurance companies also hopped into the game by issuing Credit Default Swaps.
Envisioning that mortgage lenders would sell out their house if they were to default on their mortgage, commercial banks came up with a subprime lending strategy.
The banks started offering an option to take a mortgage to families with extremely poor credit scores, who found it difficult to keep up with the repayment schedules.
In the beginning, when Americans started defaulting on their debt, it wasn’t a major issue as instead of owning securities, you would own a house. But when the number of defaulters increased, the market was flooded with houses.
The circumstances were baffling for both buyers and seekers of CDOs as they had already borrowed millions and billions. In the case of Lehman Brothers, they had around 130 billion dollars worth nothing.
Since the insurance companies too had fallen short of cash, the federal government was bound to bail out AIG for 180 billion USD.
Adding to the problem were the Americans who could afford but intentionally stopped paying their mortgages. And the reason was many of them took out mortgages to buy another house. Thus when the recession started blooming, paying 300k USD for a house worth 100k USD made no sense.
Practically no country was able to dodge the financial crisis in the US. Besides, in 2007 August it became pretty evident the financial market could not solve the US subprime crisis in and beyond the US borders.
Although by the end of 2009, the central banks and government came together, the forecast made it pretty clear that there would be no growth for at least 2009.
Thus measuring the impact of the recession caused by the end of 2008, the crisis was the worst shower after the Great Depression.