The Great Crisis of 2007–09

Abstract

The roots of the Great Crisis are to be found in the US financial-deregulation waves, whose harmful effects had been exacerbated by the improvident monetary policies undertaken by the Fed after the collapse of the ‘new economy’. In fact, between January 2001 and June 2003, the decrease in the policy rate, which dropped from 6 to 1 per cent, encouraged American households — who expected the real estate appreciation to continue — to increase their borrowings to buy real estate properties. As a result, real estate prices skyrocketed triggering two feedback processes which amplified the effects of the monetary policy and fed the speculative bubble. The first process involved the real estate market: as a result of the growing property prices, more credit was granted to households (thanks to the increased value of collateral assets), which reinforced real estate appreciation. The second process, which was closely related to the spreading out of securitization, took place on the financial market: the growing real estate prices increased the value of the securities backed by mortgage loans, making the balance sheet of intermediaries (apparently) stronger; thus the banks could raise more funds to buy those securities, which reinforced their appreciation and guaranteed abundant liquidity to the primary mortgage market.