A financial crisis is a major disruption to the economy that can lead to a recession or depression. It can be caused by overvaluation of assets, regulatory failures or absences, incentives for risky behavior, and contagions that spread problems from one firm to another, or between countries. Some believe that financial crises are an inherent feature of modern capitalist economies, which fuel speculative growth during boom times but then contract during contractions, leading to losses and bankruptcies.

The crisis began in late 2007 when the housing market slowed and mortgage defaults rose, and grew rapidly in early 2008 as hedge funds revealed large losses on their holdings of subprime mortgage-backed securities and banks struggled to assess the quality of the assets they had purchased. By the end of September, Lehman Brothers failed, and global credit markets froze as investors became increasingly wary about who might be next to fail. Businesses and households withdrew money from institutions that could no longer get new loans, and many firms that were relying on mortgage-related investments to fund themselves stopped producing goods and services.

The government responded with a combination of monetary and fiscal policies, including lowering interest rates to very low levels; lending massive amounts of money to banks and other firms that were experiencing liquidity problems (known as ‘quantitative easing’); buying ownership stakes in some financial firms to help prevent bankruptcy; and spending billions to stimulate demand. This prevented a global depression, but the world economy suffered its worst slowdown since the Great Depression and took much longer to recover than would have otherwise been the case. Millions lost their jobs, their homes and large portions of their wealth.