Federal Reserve Bank of Dallas Staff Papers: How Bad Was It? The Costs and Consequences of the 2007–09 Financial Crisis

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Federal Reserve Bank of Dallas Staff Papers

The Costs and Consequences of the 2007–09 Financial Crisis

The Financial Crisis Cost More Than $14 Trillion: Dallas Fed Study

The financial crisis likely cost at least a year’s worth of U.S. economic output, a new Fed study finds. Worse, it’s hurting the economy even now and will hurt it for years to come.

That is the cheerful conclusion of a new study by economists at the Dallas Federal Reserve, entitled “How Bad Was It? The Costs and Consequences of the 2007–09 Financial Crisis.”

So how bad was it? Really, really bad: The economists say a “conservative” estimate of the damage is $14 trillion, or roughly one year’s U.S. gross domestic product. This is based on how much output was lost during the crisis and Great Recession, along with all the damage done to potential future economic growth.

The ?Second Great Contraction?in the U.S. was the result of a con?uence of factors: bad loans made by banks, ratings agencies falling down on the job, lax regulatory policies, misguided government incentives that encouraged banks to be reckless in their lending, and even monetary policy that kept interest rates too low for too long.

The Second Great Contraction, the worst economic downturn since the 1930s, was unusual because it stemmed from an easing of credit standards and an abundance of ?financing that had fueled the prior expansion. This fuel also helped create imbalances? an overextension of mortgage ?financing and capital market fi?nancial intermediation. A housing collapse and credit shocks, culminating in a ?nancial crisis, hit the economy as these fi?nancial practices generated new losses. Home construction plunged, the stock market crashed, commodity prices tumbled, job losses mounted, credit standards tightened, and short-term funding markets seized up.

This publication is available on the Dallas Fed website, www.dallasfed.org.

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