Global Financial Crisis 2008 Explained

August 23, 2019

The global financial crisis (GFC) refers to the period of extreme stress in global financial markets and banking systems between mid 2007 and early 2009. The world economy had gripped into the most severe financial crisis since the Great Depression of 1930s. The mid 2007 sub-prime mortgage debacle in the US developed into a global financial crisis and moved the global economy into a recession. Several major financial institutions in the US and Europe failed, and stock market and commodity prices collapsed and became highly volatile.

global financial crisis

Origin of Global Financial Crisis

Origin of the present global crisis can be traced to the sub-prime mortgage market in the US. Sub-prime mortgages are residential loans that do not conform to the criteria of ‘prime’ mortgages, and so have a lower expected probability of full repayment. Because of their high risk of default, sub-prime borrowers are charged higher interest rates than prime borrowers. The sub-prime loans are securitised by which is meant that they have been advanced without asset backed securities such as collaterised debt obligations (CDOs). Institutional investors such as hedge funds, pension funds and banks have been investing in such securities. The first sign of trouble in sub-prime lending in the US was associated with high volume of ‘early payment deficits’ (or defaults) in which the borrower misses one or two of the first three monthly payments, followed by rising delinquency rates. Apart from the slowdown in the residential property market, the adjustable interest rate loans offered by the lenders was also a factor responsible for defaults and delinquencies. As interest rates increased and house prices first flattened and then turned negative in a number of regions, many borrowers were left with no option but to default on repayment as refinancing options were not feasible with little or no housing equity.

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