ECONOMIC CRISIS (2007-08) is widely known as the “GLOBAL FINANCIAL CRISIS”.
This U.S Economic Crisis began in the year 2007 with the crunch in the subprime
mortgage market. Economist consider the financial crisis of 2007-08 as the nastiest
economic crisis as the financial crisis ruined the whole economy. The root
cause of the financial crisis was the banking system or the financial system of
the economy as it led to a big brutal trap. Subprime mortgage market refers to the type of
market where the loans are given to those individuals who have very poor credit
history or to those people which are not economically sound and are not able to
repay the loan amount. This subprime mortgage trap ended with the international
banking crisis as many huge investment banks distorted at that time. The major
cause of financial crisis the “subprime mortgage” was created during the period
2001-07. The crisis was being followed
by the EUROPEAN DEBT CRISIS, the GLOBAL ECONOMIC DOWNTURN, and the GREAT
CAUSES OF THE U.S ECONOMIC CRISIS
· SUBPRIME LENDING:
Subprime lending means lending to those people who become defaulters for
the banks or the financial institutions in future because they are not able to
repay the amount back to the institutions. After the year 2000 the subprime
share in the market was rapidly increasing, and in the year 2004-2005-2006 it
was at its peak. The home ownership percentage was increasing at an increasing
· GROWTH OF THE HOUSING BUBBLE:
Between the years 1998 and 2006 the American house’s price increased by
an average 124%, sale price of houses in U.S was rapidly increasing as houses
were available at very cheaper rates to everyone whether the person is capable
to become owner of the house or not, this led to rapid increase in the prices.
· EASY CREDIT CONDITIONS:
Major reason behind the rapid increase in the borrowing percentage from
banks and other financial institutions was the lower interest rates and very
easy loan approval process. According to a research made by an economist, the
current account deficit of U.S increased from 1.5% to 5.8% of the total GDP of
the U.S. Current account deficit refers
to the overvaluation of the domestic currency which results in cheaper imports
and lesser competitive exports.
· INCREASED DEBT BURDEN:
Debt burden refers to the situation where any country or any organization
owes a large amount of money to other country or other organization and are
unable to repay. Financial institutions and households of U.S became
increasingly indebted before the crisis. This led to an economic downturn and
collapsed into a housing bubble. This deepened the credit crunch.
· INCORRECT PRICING OF RISK:
Price risk refers to the risk of a drop in the value of the security that
can be minimized through diversification unlike market risk.
· COMMODITIES BOOM:
There was quick increase in the prices of many commodities which followed
the breakdown in the housing bubble. In the early 2007 price of oil roughly
became thrice of its initial amount as it changed from $50 to near about $148.
Prices of items like nickel and copper also increased speedily.
IMPACT OF ECONOMIC CRISIS
· IMPACT ON STOCK MARKET:
After reaching at 14000 points, the U.S stock market declined up-to 6000
points in the year 2008 due to the economic crisis or the financial crisis. The
U.S stock market plunged by more than 50%. One of the economist also said that
it was quite similar to that of the GREAT DEPRESSION, as during that period
also the stock market plunged by more than 50%, but during the period of GREAT
DEPRESSION the stock market dropped down by 89% in total.
· IMPACT ON FINANCIAL INSTITUTIONS:
On august 9, 2007 the first noticeable event occurred in United Kingdom,
the investors and savers panicked and started liquidating their assets which
were deposited with the financial institutions. The IMF estimated that banks
lost more than $1 trillion in the form of bad loans and toxic assets between
2007 to 2009. This in turn led to bank run in the U.S. Bank
run refers to a situation when people rush to the banks to withdraw their money
as they doubt that the banks may stop functioning in the immediate future.
· IMPACT ON WEALTH:
According to a report between 2007 and 2008, Americans roughly lost more
than a quarter of their combined net worth. By the year 2008 the U.S stock
index dropped down by 50% from its peak, housing prices dropped down by 20%
from its peak. Economists, analysts and experts analysed that the market
signalled a drop of more 30%-35% in the near future. The United State’s home
equity was valued at $13 trillion which eventually became $8.8 trillion in 2008
and was still declining. During the crisis the savings and investment assets
lost $1.2 trillion and the pension assets lost $1.3 trillion.
· IMPACT ON REAL GDP:
The output of goods and services produced by the labour in the U.S decreased
roughly by 6% in the last quarter of 2008. The unemployment rate approximately
increased to 10.2% which was approximately twice of that before the crisis. The
average working hours also declined, according to data it was recorded that the
average working hours per week became 33 which was the lowest since 1964. The
decline in the GDP of the U.S resulted in the decline in the innovation.
bank and the Federal Reserve of the United States took steps to enlarge the
money supply in order to evade the risk of deflationary gap, in which higher
unemployment and lower wages leads to deterioration in global consumption. The
Federal Reserve of United States expanded its liquidity facilities to the
central bank in order to fulfil its role of lender of last resort during the
crisis. Federal Reserve and other central banks in the last quarter of 2008 acquired
government’s debt of $2.5 trillion and troubled the private assets from the
banks. This was the biggest liquidity injection and the largest monetary policy
action into the credit market in the world’s history. Federal Reserve created
and inserted $600 billion into the banks in order to spur banks to refinance
the mortgages and to fund the domestic loans, however the banks did not did the
same as they spent the money into those areas which were gainful according to
them. They invested the money in the emerging international markets and in the
foreign currencies. Ex – President of the United States Barack Obama and his counsellors
introduced a series of different governing proposals in the month of June 2009.
Those governing proposals included consumer protection, capital requirements, executive
pay, expanded regulation of the banking system, bank financial cushions and
enhanced authority of the Federal Reserve. The ex – president also proposed
limitation on the banks in engaging in proprietary trading. On the other hand
European watchdogs introduced different regulations like increased capital
ratios, new liquidity requirements, limits on leverage and limit counter party
Ø On December 11, 2009 the house
cleared the bill of Wall street reform and the consumer protection act.
Ø On April 15, 2010 restoring American
financial stability act was introduced.
Ø On July 21, 2010 Dodd frank wall
street reform and consumer protection act was enacted.
The government of the states used $700 billion
to purchase the troubled mortgage assets and to calm the financial system of
the country. The government also decided to spend $831 billion to spend in the
following 10 years in order to boost the economy.
CURRENT SCENARIO OF THE U.S ECONOMY
U.S economy currently is the world’s largest
economy by nominal GDP and it
stands at the second position in case of purchasing power parity (PPP). According to statistics U.S is a $19.62
trillion economy. The U.S economy continues to show strength. According to the data
the GDP per capita of the United
States is increasing year by year, as in the year 2012 it was $51386, in 2013
it was $52705, in 2014 it was $54502, in 2015 it was $56175, in 2016 it was
$57436 and currently in 2017 it is $59495. The economy of the United States
represents around 20% of the total global output, the economy embraces of technologically
advanced and highly advanced service sector which accounts about 80% of its
total output. Many U.S based companies are listed under the 500 Fortune Global
companies. On the other hand U.S is also the second largest manufacturer in the
world with a high class automobile manufacturing industries, aerospace
industries and chemical industries. The country comprises of classy physical
infrastructure and educated and productive workforce. The minimum wage rate per
hour in the country is $7.25 and the unemployment rate of the country is 4.1%. The government of the United States provides
political stability, controlling structure and functional legal system that
helps the economy to curl. After the recession the economy has recovered well
and the worst effects of the recession are now vanishing.