THE 2007-2009 FINANCIAL CRISIS: AN ECONOMIC PERSPECTIVE Nellie Liang and Andrew Metrick September 11, 2018 at BROOKINGS
ARC OF THE CRISIS
250 % Q1 1980 Q1 2008 31% 64% Nonbank Financials Broker-Dealers 200 69% 36% Banks GSEs 150 ABS MMF 100 Insurers 50 0 1970 1975 1980 1985 1990 1995 2000 2005 2008 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
TOOLS AVAILABLE NO AUTHORITY FDIC • To intervene to manage the failure or nationalize nonbanks. • Resolution authority for banks, with systemic risk exemption to • To guarantee the broader allow FDIC to provide broader liabilities of the nancial system. guarantees. • To inject capital into the nancial • Deposit insurance for banks. system. Federal Reserve • For the Fed to purchase assets • Discount window lending for other than Treasuries, Agencies banks, and in extremis for other and Agency MBS. institutions. • To inject capital or guarantee • Swap lines for foreign central the GSEs. banks.
Bank credit default swap spreads and Libor-OIS 500 basis points Increasing Stress Early Breaking the Panic Escalation and Resolution 400 300 200 Bank CDS spreads 100 Libor-OIS spread 0 2007 2008 2009 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.
POLICY RESPONSES
Increasing Stress Early Breaking the Panic Escalation and Resolution 400 basis points TAF (Fed) TAF extension TSLF (Fed) 350 PDCF (Fed) AIG stabilization (Fed, Treasury) Money market guarantees (Treasury) 300 Systemic AMLF (Fed) nancial CPFF (Fed) policies 250 Bank debt, deposit insurance (TLGP, TAG) (FDIC) Capital Purchase Program (CPP) (Treasury) TALF (Fed, Treasury) 200 Bank Stress Tests (Fed) PPIP (Treasury) Fed Funds interest rate cuts (Fed) 150 Monetary and Quantitative Easing (Fed) scal policies Stimulus Act (Bush) Recovery Act (Obama) 100 Fannie Mae, Freddie Mac conservatorship (FHFA) Housing MBS Purchase Program (Treasury) HAMP (Treasury) 50 HARP (FHFA) International Central bank swap lines (Fed) Swap lines expanded (Fed) 0 2007 2008 2009 Source: Libor-OIS: Bloomberg
Federal Reserve discount window usage Term Auction Credit Facility (TAF) usage $600 billion $600 billion Use of the Term Auction 500 Fed’s discount 500 Credit Facility window . . . so the Fed Banks were reluctant to initiated TAF in 400 400 borrow from the Fed’s a similar role, discount window over fear and opened it it would signal they were in to both 300 300 nancial trouble . . . domestic and foreign banks. 200 200 Foreign banks U.S. banks 100 100 0 0 2007 2008 2009 2010 2007 2008 2009 2010 Sources: Federal Reserve Board; internal calculations
Mortgage-related securities issuance Spread between FNMA 30-year current coupon MBS and 10-year Treasury $300 billion 300 basis points Fannie Mae, Freddie Mac Fed QE 1 Fed announces it will buy conservatorship Sept. 6, 2008 GSE debt and GSE-backed MBS, Nov. 25, 2008 Senior Preferred Stock Purchase Agreements (SPSPAs) First SPSPA Amendment increases commitment GSEs receive capital backstop of up to $100 billion, Sept. 26 to $200 billion per GSE, May 6, 2009 250 250 GSE MBS Left scale Private market MBS Left scale Agency MBS spread Right scale 200 200 Second SPSPA Amendment increases commitment again, Dec. 24, 2009 150 150 100 100 50 50 0 0 2006 2007 2008 2009 2010 2011 Sources: MBS issuance: Securities Industry and Financial Markets Association; agency MBS spread: Bloomberg
Overnight issuance as a share of outstanding commercial paper 15% Anxious investors Commercial Paper Funding Facility (CPFF) demanded ultra-short AMLF and money market established by Fed, Oct. 7, 2008 terms for commercial guarantees Sept. 19, 2008 12 paper as concerns their Fed establishes ABCP Money Market Mutual Fund Liquidity holdings were tainted by Facility; Treasury announces troubled MBS caused Asset-Backed temporary guarantee program liquidity to evaporate. Commercial Paper for money market mutual funds 9 (ABCP) Lehman Bankruptcy Commercial Paper Sept. 15, 2008 6 3 BNP Paribas freezes three Master Liquidity Enhancement Conduit (MLEC) funds over MBS concerns, On Oct. 15, 2007, Treasury facilitates plan for private banks Aug. 9, 2007 to support the ABCP market; it is never implemented 0 2007 2008 2009 Source: Federal Reserve
Capital raised each year $120 billion U.S. Banks ~90% of 2008-16 capital was raised 2008-10 100 80 60 European Banks ~50% of 2008-16 capital was raised 2008-10 40 20 0 2008 2009 2010 2011 2012 2013 2014 2015 2016 Source: Goldman Sachs
Senior unsecured U.S. bank debt issuance under TLGP (DGP)* Average-weighted CDS spread for six big banks $400 billion 500 basis points FDIC bank debt Bank CDS 350 spreads guarantees 400 300 Nonbanks 250 300 TLGP Debt Guarantee Program introduced Oct. 14, 2008 200 Bank holding 200 companies 150 100 100 50 Traditional banks 0 0 2008 2009 2010 2011 2012 2007 2008 2009 Sources: Debt issuance: Federal Deposit Insurance Corp.; internal calculations; CDS spreads: Bloomberg *Debt Guarantee Program covered debt issued by both the parent company and its a liates
MACRO POLICIES
Central bank target interest rates for each country (month-end) 6% target rate On Oct. 8, 2008, the Fed United Kingdom joins the European Central United States Bank, the Bank of England, 5 and the central banks of Canada, Sweden and Switzerland in cutting interest rates. 4 Canada 3 European Union 2 Switzerland 1 Japan 0 2005 2006 2007 2008 2009 2010 2011 2012 Source: Bloomberg
Quarterly e ect of scal stimulus measures on GDP +4.0% Estimated impact on GDP from scal legislation +3.5 Pre-Recovery Act Recovery Act Post-Recovery Act +3.0 +2.5 +2.0 American Recovery and Reinvestment Act of 2009 Feb. 17, 2009 +1.5 +1.0 +0.5 0 2007 2008 2009 2010 2011 2012 Sources: Council of Economic Advisers; Congressional Budget O ce; Bureau of Economic Analysis; calculations by Jason Furman Note: $712 billion represents the stimulus from the Recovery Act through 2012.
OUTCOMES
Treasury, Federal Reserve, and FDIC exposures; real GDP and employment, year-over-year percent change (monthly) $7 trillion +6% Real GDP Year-over-year 6 change Right scale +4 5 +2 4 0 3 Government Employment –2 commitments Year-over-year 2 Left scale change Right scale Guarantees Other programs –4 1 TARP Fed liquidity 0 –6 2008 2009 2010 Sources: U.S. government exposures: U.S. Treasury, Federal Reserve Board; Federal Deposit Insurance Corp.; Federal Housing Finance Agency; Congressional Oversight Panel, “Guarantees and Contingent Payments in TARP and Related Programs” via Federal Reserve Bank of St. Louis; internal calculations. Real GDP: Macroeconomic Advisers; Haver Analytics. Employment: Bureau of Labor Statistics; internal calculations
How bad was the drop in GDP? How long was the recession? How fast was the recovery? Decline in output peak to trough Duration of recession Recovery of output to (real GDP per capita) previous peak –9.6% 2.9 7.3 –5.25% 1.5 5.5 years years years years 63 nancial crises in advanced economies , 1857 to 2013 U.S. nancial crisis Sources: National Bureau of Economic Research, “Recovery from Financial Crises: Evidence from 100 Episodes”; Bureau of Economic Analysis via Federal Reserve Economic Data, internal calculations
Real GDP, percentage change from 4th quarter 2007 + 6% United States + 4 Germany + 2 France 0 – 2 United Kingdom – 4 – 6 Italy – 8 Spain –10 2008 2009 2010 2011 2012 2013 Source: Organisation for Economic Co-operation and Development
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