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Running head: MONETARY POLICY ANALYSIS
1
THE GREAT RECESSION
Ani Barseghyan
Bus 603
March 11, 2018
Monetary Policy 2
Introduction
The great recession refers to the period (2007-2013) marked by general decline in
economic activities across major markets across the globe. The recession was the worst
experience since the 1930’s. The primary causes of the recession originated from the United
States of America and spread out to the rest of the world. However, the impact of the recession
was not felt evenly across the globe. Notably, the developed economies felt a greater impact than
the developing economies. The great recession met the basic criteria for gaining the global status
of a recession within a short period of less than a year. The years before the beginning of the
recession were characterized by an exorbitant rise in the price of most assets leading to a boom
in economic activities. Improper practices in the banking sector contributed significantly to the
collapse of the economy. The mortgage-backed by securities had significant risks that were hard
to assess. The impact of the improper economical practices was spread and soon flowed to the
rest of the world.
Historical Context
The great recession began in late December 2006 to early 2013. The factors leading to the
great recession were internal. The market conditions in the real estate industry preceded the great
recession.
Causes of the Economic Recession
The Housing Bubble
The period before 2006 witnessed a rise in the price of typical American houses. The
price increase in some of the cases was more than 100%. The situation resulted in a section of
the homeowners paying for their homes at low interest rates. Alternatively, a section of the
Monetary Policy 3
homeowners opted to finance their spending by applying for other mortgages that would be
secured by increase in price (Bartels, 2014). There was high speculation that the price of the
houses would continuously appreciate.
The increase in price levels was above the average inflation rates in the economy. There
was a significantly high increase in the household debt, lower savings rate and a decline in the
homeownership rates. The housing bubble was predominant in the coastal regions where
building new homes was restricted by geographical factors and the recommended land use by the
government (Del Negro, & Schorfheide, 2015). The housing bubble resulted in more
homeowners refinancing their mortgages. The consumers were keen on taking second
mortgages that would be secured by the rising prices for the houses.
However, by September 2008, the prices had declined by about 20% from their peak
prices in 2006. Most of the homeowners rushed to obtain adjustable rate mortgages. The enticed
the borrowers with interest rates that were below the prevailing market rates. The consumers
were to comply with the adjusted rate for a given duration of time (Bell, & Blanchflower, 2011).
In the instance where the borrowers did not make a huge payment during the grace period, they
were allowed to refinance their mortgages. Refinancing the mortgages would soon become
difficult as the prices of the houses in the market was facing a steady decline.
As the housing prices increased, there was a sharp decline in the consumer saving. The
consumers were also spending a lot and borrowing a lot. There was s significant growth in the
household debt. Speculations have it that in early 20068, an Average consumer has more than ten
credit cards. The credit and house price explosion led to a building boom which resulted in the
housing prices reaching the peak (Bell, & Blanchflower, 2011). There was a significant
Monetary Policy 4
increase in the homeownership rates in the United States of America. However, most of the new
owners could not service their mortgages and opted to refinance their mortgages.
Mortgage Crisis
The housing bubble resulted in the subprime mortgage crisis. The decline in residential
investment resulted in the global recession and later on, there was a reduction in household
spending and business investments in the economy. Speculative borrowing among the
homeowners contributed significantly to the mortgage crisis. The housing prices had doubled,
and the homeowner was speculative of the further increases in the price of the houses. The
market behavior has a significant impact on the lenders. They offered more loans without
adhering to the lending standards. Some of the lenders offered their products at interest rates
