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at BROOKINGSCHARTING THE

FINANCIAL CRISIS

U.S. Strategy and Outcomes

Introduction

The global ?nancial crisis of 2007-2009 and subsequent Great Recession constituted the worst shocks to the United States

economy in generations. Books have been and will be written about the housing bubble and bust, the ?nancial panic that

followed, the economic devastation that resulted, and the steps that various arms of the U.S. and foreign governments took to

prevent the Great Depression 2.0. But the story can also be told graphically, as these charts aim to do.

What comes quickly into focus is that as the crisis intensi?ed, so did the government"s response. Although the seeds of the

harrowing events of 2007-2009 were sown over decades, and the U.S. government was initially slow to act, the combined e?orts

of the Federal Reserve, Treasury Department, and other agencies were ultimately forceful, ?exible, and e?ective. Federal

regulators greatly expanded their crisis management toolkit as the damage unfolded, moving from traditional and domestic

measures to actions that were innovative and sometimes even international in reach. As panic spread, so too did their e?orts

broaden to quell it. In the end, the government was able to stabilize the system, re-start key ?nancial markets, and limit the

extent of the harm to the economy.

No collection of charts, even as extensive as this, can convey all the complexities and details of the crisis and the government"s

interventions. But these ?gures capture the essential features of one of the worst episodes in American economic history and the

ultimately successful, even if politically unpopular, government response. 1

Antecedents of the Crisis

2

ANTECEDENTS

In the years leading up to the crisis,

the underlying performance of the

U.S. economy had eroded in

important ways. 3 0 1 2 4 3 5

20082005 200019951990198519801975

Sources: Congressional Budget O

ce, "An Update to the Economic Outlook: 2018 to 2028"; internal calculations

ANTECEDENTS

Because the growth of productivity and the labor force had slowed in the decade before the crisis, the potential economic growth rate was falling. Average growth in real potential GDP (August 2018 estimate)

Productivity growth

Contribution to potential GDP from:

Labor force growth

4 94
96
98
100
102
104
106

ANTECEDENTS

Overall prime-age participation in the labor force had been falling, as the participation of women slowed and men's continued a decades-long decline. Civilian labor force participation rates for people ages 25-54, indexed to January 1990=100

Women, ages 25-54

All people, ages 25-54

Men, ages 25-54

Source: Bureau of Labor Statistics via Haver Analytics 5 - 50 0 + 50 +100
+150
+200
+250
+300%

200820052000199519901985198019751970

ANTECEDENTS

Income growth for the top 1 percent had risen sharply, driving income inequality to levels not seen since the 1920s. Cumulative growth in average income since 1979, before transfers and taxes, by income group

Bottom 20 percent

of households

81st to 99th

percentiles of households

Top 1 percent

of households

Middle 60 percent

of households

Source: Congressional Budget O

ce, "The Distribution of Household Income, 2014" 6 0 20 40
60
80
100
120
140%

200820052000199519901985198019751970

ANTECEDENTS

Household debt as a share of income had risen to alarming heights. Aggregate household debt as a share of disposable personal income (after taxes)

Sources: Federal Reserve Board Financial Accounts of the United States; Federal Reserve Board, "Household

Debt-to-Income Ratios in the Enhanced Financial Accounts"

Mortgage debt

Consumer debt

7

ANTECEDENTS

Meanwhile, the

nancial system was becoming increasingly fragile. 8 0 8 6 4 2 10%

2008200019901980197019601950194019301920

ANTECEDENTS

A "quiet period" of relatively low bank losses had extended for nearly 70 years and created a false sense of strength.

Two-year historical loan-loss rates

Sources: Federal Deposit Insurance Corp.; Federal Reserve Board; International Monetary Fund 9 -15 -10 - 5 0 + 5 +10 +15 +20%

200820052000199519901985198019751970

ANTECEDENTS

The "Great Moderation" - two decades of more stable economic outcomes with shorter, shallower recessions and lower in ation - had added to complacency.

Quarterly real GDP growth

Source: Bureau of Economic Analysis via Federal Reserve Economic Data 10 0 5 10 15 20%

200820052000199519901985198019751970

ANTECEDENTS

Long-term interest rates had been falling for decades, re ecting decreasing in ation, an aging workforce, and a substantial rise in global savings.

Benchmark interest rates, monthly

30-year

xed mortgage rate

10-year

Treasury2-year

Treasury

Sources: Federal Reserve Board and Freddie Mac via Federal Reserve Economic Data 11

197019751980198519901995200020052008

0 + 40 + 60 + 80 +100%
+ 20

Home prices had increased modestly

through several boom-and-bust cycles since the 1970s, but started a much more dramatic rise in the late 1990s.

ANTECEDENTS

Home prices across the country had been rising rapidly for nearly a decade. Real Home Price Index, percentage change from 1890 Source: U.S. Home Price and Related Data, Robert J. Shiller, Irrational Exuberance 12 0 50
100
150
200
250

200820052000199519901985198019751970

ANTECEDENTS

Credit and risk had migrated outside the regulated banking system. Credit market debt outstanding, by holder, as a share of nominal GDP

Insurers

GSEs ABS MMF

Source: Federal Reserve Financial Accounts of the United States Notes: GSE: government-sponsored enterprise (including Fannie Mae

and Freddie Mac); ABS: asset-backed securities; MMF: money market funds

Q1 1980

31%
69%

Q1 2008

64%
36%

Nonbank Financials

Broker-Dealers

Banks 13 0 0.25 0.50 0.75 1.00 1.25 1.50 1.75 $2.00 trillion

200820052000199519901985198019751970

The use of repo funding tripled

in the decade prior to 2008.

ANTECEDENTS

The amount of

nancial assets nanced with short-term liabilities had also risen sharply, increasing the vulnerability of the nancial system to runs.

Net repo funding to banks and broker-dealers

Source: Federal Reserve Board Financial Accounts of the United States 14 0 2 4 6 8 10 12 14%

Wells Fargo

Citi

Goldman SachsMorgan

Stanley

Bear

Stearns

JPMorgan

Chase

Merrill

Lynch

Lehman

Bank of America

0%

Reliance on short-term funding*

10%20%30%40%50%60%

0 0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0% '08'07'06'05'04'03'02'01

Largest U.S. bank

holding companies

All U.S.

nancial institutions

Tier 1 common equity

ANTECEDENTS

The regulatory capital regime for the U.S.

nancial system was inadequate.

Tier 1 common equity as a percent of risk-weighted assets Tangible common equity to tangible assets ratio

Sources: Capital ratios: Federal Reserve Bank of New York's Research and Statistics

Group; tangible common equity to tangible assets: company reports*Determined by share of !nancial assets pledged

Estimated

capital and funding ratios, Q4 2007

Commercial bank

Investment bank

Some institutions more

dependent on short-term funding were more leveraged.

The pre-crisis capital ratios

did not re ect the growing risks. 15

The Arc of the Crisis

16 0 100
200
300
400

500 basis points

200920082007

Bank CDS

spreads

Source: Bloomberg. Note: Credit default swap spreads are equal-weighted averages of JPMorgan Chase,

Citigroup, Wells Fargo, Bank of America, Morgan Stanley, and Goldman Sachs.

ARC OF THE CRISIS

The nancial crisis unfolded in several phases.

Bank credit default swap spreads and Libor-OIS

Libor-OIS

spread

Increasing StressEarly

Escalation

Breaking the Panic

and Resolution 17

200820072006

-50 -40 -30 -20 -10 0 +10%

Detroit

San Francisco

Miami Tampa

Los Angeles

San Diego

Phoenix

Las Vegas

Change, July 2006-March 2008

-22.5% -22.6 -23.1 -23.4 -24.4 -25.6 -26.6 -27.7

ARC OF THE CRISIS

Home prices peaked nationally in the summer of 2006, then fell rapidly - eight major cities had declined more than 20 percent by March 2008.

U.S. peak:

July 2006

U.S. change by March 2008: -9.0%

Sources: S&P CoreLogic Case-Shiller Home Price Indexes for 20 individual cities and National Home Price Index via Federal Reserve Economic Data

18 basis points 0 50
100
150
200
250
300
350
400

200920082007

Source: Bloomberg Note: GSE: government-sponsored enterprise

ARC OF THE CRISIS

Stress in the

nancial system built up gradually over late 2007 and early 2008, as mortgage troubles and recession fears increased.

Libor-OIS spread

Bank of England provides

emergency credit to Northern

Rock, a troubled mortgage

lender, Sept. 14, 2007

Banks and GSEs start reporting

billions in losses in November 2007, and warn of dividend cuts and a need for more capital; stocks fall

BNP Paribas freezes

three funds on

Aug. 9, 2007, amid

fragile ABCP markets

JPMorgan Chase

rescues Bear Stearns with emergency support from Federal Reserve,

March 14, 2008

Stock markets plunge

Jan. 21-24, 2008, amid

recession fears

Bank of America announces intent

to buy Countrywide Financial, the troubled mortgage lender,

Jan. 11, 2008

19

Libor-OIS

spread

Fannie Mae and Freddie Mac

guaranteed half of all U.S. mortgages, or nearly $4.4 trillion worth of debt.

As the housing market

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