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Financial Crisis of 2008 Research Paper

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Updated: Nov 22nd, 2020


Economic and financial crises may be caused by adverse external factors as well as logical processes that are part of the cyclical mechanisms of the market (Birdsall 5). The latter is important to acknowledge for scholars in order to regard crises not as much as disasters but as developments within economies where a long chain of events and circumstances lead to a crisis. Therefore, identifying what caused a particular financial crisis is challenging, and a single answer to what causes a crisis is unattainable (Taylor 1). Also, defining the consequences is difficult because economic processes are highly interconnected, which is why it is hard to determine what would have happened in an economy if it had not been for a financial crisis. However, researchers still emphasize the importance of analyzing crises for the purpose of developing better coping strategies for negative effects, such as higher unemployment rates, decreased consumption, lower incomes, and so on. For the financial crisis of 2008, three major points of analysis can be identified: causes of the crisis, response to it, and possible recommendations for avoiding similar devaluation in the future.

Causes of the Financial Crisis of 2008

First of all, there are multiple approaches to defining the causes of the financial crisis of 2008. One of them is the classic approach that is hundreds of years old and based on the fundamental understanding of how capitalist economies work. According to this perspective, crises “are caused by excesses—frequently monetary excesses—which lead to a boom and an inevitable bust” (Taylor 1). For the given crisis, the excess came from the area of housing, where values and assets had not been properly assessed, which resulted in financial turmoil that spread from the United States around the world.

Economics specialists have argued that the global financial crisis of 2008 was caused by a combination of factors, including the abundance of cheap credits in the macroeconomic environment as well as counterproductive decision-making in governments and in the market. From the point of view of the international political economy, these circumstances, as they had been leading to the crisis, could have been identified to establish the threats associated with them (Helleiner 67). For example, many scholars, although a minority in the academic community, had been pointing at the weaknesses of the pre-crisis securitization model. As well, many had been criticizing policies and revealing regulatory failures of the late Bush administration. However, according to international political economy experts, the academic community, in general, had failed to recognize the phenomenon of the United States financial bubble until it popped (Helleiner 84). Among the macroeconomic factors that caused the bubble, researchers identified the impact of the international flow of capital, although this acknowledgment mostly came after the crisis.

The major factor that influenced the unfolding of the financial crisis was the situation in the United States mortgage sector. The sector had been expanding in the United States for decades, turning housing into a commodity under the circumstances of daunting inequality in society. The way housing loans had been granted by lenders and treated by borrowers significantly undermined the value of assets in the sub-prime, i.e. high-risk, mortgage market. According to Weeks, “the asset collapse in this [sub-prime mortgage] market was a spectacular but minor aspect of the general financial disaster to come” (143). The link between risky lending and the subsequent financial crisis is established through understanding the processes of mortgages accumulation in the market and the high default rate. As the financial bubble was growing, lenders developed aggressive practices and procedures that inevitably caused substantial damage to the value of assets in the market.

Another important aspect of the crisis’s background is the fallacy of the government and financial institutions in terms of assuming that housing prices would continue to grow consistently. The assumption was a major factor in promoting homeownership on the regulatory level, simplifying lending procedures, and omitting important elements of securing financial commitments. The assumption was associated with dramatic risks because its inaccuracy effectively led to the asset collapse in the market. As a result, global economic growth was decelerated. International financial organizations were affected in terms of lowered investor confidence and the fall of stock markets.

Response to the Financial Crisis of 2008

The immediate response of governments and financial institutions to the financial crisis has been heavily criticized by prominent economists (Bernanke 87). It was stressed that the financial system, both American and international, had significant disadvantages that allowed the decrease of housing prices to turn into a full-scale financial crisis that many described as the worst one since the Great Depression. Similar disadvantages existed in the private sector. Bernanke identifies four such disadvantages: “the excessive debt taken on perhaps because of the period of the Great Moderation;…the banks’ inability to monitor their own risks; excessive reliance on short-term funding (which, as a nineteenth-century bank would tell you, makes it vulnerable to a run as short-term funding is pulled away); and increased use of exotic financial instruments such as credit default swaps and others that concentrated risk in particular companies or in particular markets” (65). In the public sector, the disadvantages included poor monitoring of important companies and markets. Also, the legal system was criticized for the lack of emphasis put on the stability of the financial system in its entirety. Policies and regulations were aimed at particular parts of the market while overlooking general trends and developments.

As a result, as the crisis unfolded, the government and the financial system did not have adequate tools to immediately respond to it in an effective manner (Bernanke 86). Large firms, such as investment banks and insurance corporations, went bankrupt, and no regulations were available to adopt in order to prevent extensive damage that the bankruptcy caused to the global financial system. The necessary change is thus defined as the establishment of the global financial system where critical firms, when facing difficulties and pressures, can fail without causing a crisis in the entire system and affecting its elements everywhere.

However, some measures taken to deal with the recession were seen by most economists as positive. For example, the legislative attempt to stimulate the economy and prevent serious adverse consequences was made by the United States government right after Barack Obama was elected President by extensively investing in the public sector. It was believed that the investment will help save many jobs and create a new one (Perlman 120). A law was adopted to implement the government spending plans: the American Recovery and Reinvestment Act, also known as the Stimulus. The new legislation was heavily criticized by many prominent economists but also praised by other influential economics specialists as a necessary measure. Although the Act did not manage to achieve its initially determined goal to keep the unemployment rate lower than a certain bar, it was ultimately deemed beneficial. A few years after the adoption, most economists in the United States agreed that the unemployment situation would have been worse in the country if it had not been for the Stimulus.

Bernanke asserts that, despite the lack of appropriate tools for responding to the crisis, the United States managed to “[avoid] what would have been…a collapse of the global financial system” (86). Bernanke, who served as Chairman of the Federal Reserve at the time, justifies the response of the Reserve, which mainly included keeping big firms functioning despite the fact that their failure would have been inevitable without the Reserve’s assistance, by the fact that their failure would have substantially harmed the entire global financial system. Overall, although the regulatory and economic response to the crisis remains questionable, most experts agree that the consequences of the crisis could have been much more serious in terms of unemployment as well as global and national economies.

Recommendations for the Future

As it was indicated in the beginning, crises normally occur in capitalist systems due to cyclical processes inherent in those systems and markets. However, a new crisis always unfolds under economic circumstances that are unique due to the variety of economic factors, whose combinations never repeat themselves in history. However, analyzing a crisis can provide valuable recommendations for future policymakers, decision-makers, and practitioners. The goal is to ensure a system that is less vulnerable to various possible financial shocks and capable of handling them without dramatic effects on economies in general.

First of all, the financial crisis of 2008 showed the connections that existed among many different elements of global and national economies. A failure in just one sector proved to be capable of bringing down the markets all over the planet. The crisis’s background shows that everything started from the housing lending sphere, where particular malignant processes ultimately caused the global recession. The processes’ essence was that lenders adopted aggressive practices based on the assumption that the prices would keep growing. The practices were partially supported by the United States legislation and regulations. The risk of asset collapse seems to have been ignored by major participants in this market. That is why it is important to ensure that market participants can responsibly bear their financial obligations. When financial systems are not secured, they run a risk of falling into excess and creating a financial bubble. Therefore, the recommendation is to strengthen the monitoring of markets and enforce legislation that is aimed at preventing financial bubbles. It is important to understand that the financial crisis of 2008 was a crisis in value (Weeks 138), which is why value should be protected by preventing risky operations within markets and guaranteeing adequate financial commitment of influential market participants.

However, it should also be stressed that, despite the asset collapse in the mortgage market, it may not have caused the global financial crisis. The fact that it did signifies how poorly the global economic cooperation was understood and treated. Therefore, another recommendation is to strengthen the monitoring of global economic processes. Although particular markets may be well-regulated, there are still threats to the global economy unless the connections between them are not assessed properly. Particular agencies should be created to oversee the system as a whole.

Finally, the financial crisis of 2008 was a lesson on global economic and political cooperation. Public and private sectors needed to combine their efforts in the attempt to overcome the recession because no-one could win from its negative effects. When the devaluation happened, there was no way to undo it, but there were possible measures that could have been taken to respond to it. It was clear that those measures needed to be multifaceted, i.e. there was no single solution. Despite having originated in a particular market, the financial crisis was a global phenomenon, and so are crises that the world is likely to face in the future supposed to be. Global phenomena cannot be effectively addressed on national levels, which is why it is important to develop tools and channels of international cooperation to solve modern-day economic problems.


Investor confidence, which is one of the key indicators of healthy economic development, is naturally undermined by financial crises. However, crises are not as significant a threat to this indicator as poor policies and practices that aggravate crises’ effects or inadequate coping strategies. The reason for the financial crisis of 2008 was found to be the asset collapse at the United States mortgage market caused by aggressive, high-risk lending and poor financial responsibility of large corporations. The response from governments and financial institutions was criticized by some but praised by others. The main measures were stimulating the economy by extensive government spending on the public sector and sustaining large firms whose failure could have caused substantial damage to the global financial system. Major recommendations for developing coping strategies for future crises include preventing markets from creating financial bubbles, monitoring economic processes on the global level, and promoting international cooperation aimed at more effective management of the global economy.

Works Cited

Bernanke, Ben. The Federal Reserve and the Financial Crisis. Princeton University Press, 2013.

Birdsall, Nancy. Center for Global Development. 2012. Web.

Helleiner, Eric. “Understanding the 2007-2008 Global Financial Crisis: Lessons for Scholars of International Political Economy.” Annual Review of Political Science, vol. 14, no. 1, 2011, pp. 67-87.

Perlman, Bruce. “The ARRA of Our Ways.” State & Local Government Review, vol. 41, no. 2, 2009, pp. 120-122.

Taylor, John. “The Financial Crisis and the Policy Responses: An Empirical Analysis of What Went Wrong.” National Bureau of Economic Research, vol. 146, no. 31, 2009, pp. 1-18.

Weeks, John. Capital, Exploitation and Economic Crisis. Taylor & Francis, 2011.

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