Global Financial Crisis: Causes and Impact

Essay by phd_studentUniversity, Bachelor's March 2009

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Financial crises have intervened the operation of financial markets over years. Most noticeably the great depression in 1929-30, the 1970s inflation crises and the banking crises in the 1990s created havoc in the financial markets causing severe disruption. The current financial crisis which emerged in 2007, although the roots were sown much earlier, has been one of the toughest and probably the biggest that financial markets have ever encountered. Referred to as the credit crunch, the impact of the crisis has not only been on the banking sector but on the real economy as a whole potentially leading to long and deep recession.

Causes of the Financial Crisis

Numerous accounts have been made to explain the causes of this great financial disaster. There are a number of compounded factors that has resulted in the outbreak of this financial crisis of enormous proportions.

Collapse of the US housing market, highly leveraged financial transactions and a low interest rate encouraging borrowings, among others, have all contributed to the downturn in the global financial market. Let us now look at these various causes in greater detail.

Low Interest Rates

Following the burst of the dot com bubble and the possibility of recession looming the US government started reducing the interest rates to boost up the economy. The interest rate became as low as 1.5 percent in June 2003 which was at its lowest level since 1958 (PSB, 2007). This low interest rate found its takers in the form of home buyers and borrowers with the housing market finally showing some growth after years of declining trend. In fact the rate of a 30 year fixed rate mortgage in the year 2003 was the lowest in forty years and so the dream of owning a house...