Crash Course Economics: The 2008 Financial Crisis

Hosts

• Jacob Clifford
• Adrienne Hill

Introduction

• The 2008 Financial Crisis was a significant global event.
• Ben Bernanke warned it could have led to a 1930s-style global meltdown.
• The lecture covers what happened, why, and the government response.

Mortgages Explained

• Mortgage Basics:
  • Homebuyers borrow money from banks, banks get mortgages.
  • Homeowners make monthly payments; defaults lead to banks reclaiming houses.
• Mortgages often resold to third parties.

Origins of the Financial Crisis

• Early 2000s Changes:
  • Investors sought high returns in the U.S. housing market.
  • Demand for mortgage-backed securities grew.
• Mortgage-Backed Securities:
  • Financial institutions securitize mortgages, sell as safe investments.
  • Lenders and investors driven by high returns.
• Sub-Prime Mortgages:
  • Standards loosened, risky loans made (sub-prime mortgages).
  • Predatory lending practices emerged.

The Housing Bubble

• Housing Bubble:
  • Housing prices soared from investor demand and loose lending.
  • Assumption that housing prices would keep rising.
• Bursting Bubble:
  • Defaults increased, housing prices fell.
  • Surplus homes led to further price drops.

Financial Instruments and Crisis

• Risky Investments:
  • Collateralized debt obligations (CDOs) were risky but highly rated.
  • Credit default swaps (CDS) sold as insurance failed.
  • Financial system tangled in complex derivatives.
• Institutional Collapse:
  • Major institutions like Lehman Brothers declared bankruptcy.
  • Credit markets froze, stock market crashed, recession deepened.

Government Response

• Federal Reserve Actions:
  • Emergency loans offered to banks to prevent collapse.
• TARP (Troubled Asset Relief Program):
  • $700 billion initially, $250 billion used for banks.
  • Expanded to auto makers, AIG, homeowners.
• Stimulus Package:
  • $800 billion in spending and tax cuts to mitigate recession.
• Financial Reform:
  • Dodd-Frank Act (2010):
    • Increased transparency, reduced risk-taking by banks.
    • Consumer protection bureau established.
    • Mechanisms for large banks to fail predictably.

Lessons Learned

• Perverse Incentives:
  • Policies encouraged risky lending behavior.
• Moral Hazard:
  • Risk passed along, knowing government bailouts were possible.
• Failures in Regulation:
  • Lack of supervision and faith in self-regulating markets.
  • Blame shared across financial institutions and regulators.
• Human Element:
  • Systemic failures included unethical behavior, ignorance, neglect.
• Final thoughts from the financial crisis inquiry commission:
  • "The fault lies not in the stars, but in us."

Conclusion

• Emphasizes the human and systemic factors in the crisis.
• Encourages informed, rational engagement with economic systems.

Note

• Crash Course Economics supported by Patreon, encourages rational exuberance in economic matters.