The international financial crisis of 2008 originated from a national real estate crisis in the United States. For years, property prices soared while interest rates remained low, prompting U.S. banks to extend high-risk loans to households, further inflating the real estate bubble. The bubble finally burst when the U.S. Federal Reserve hiked key interest rates, leading to increased lending rates. As homeowners defaulted on their loans, banks faced a liquidity crisis that quickly rippled through the international financial system and broad sectors of the real economy.
The Domino Effect of Subprime Loans
From 1990 to 2006, the U.S. real estate market saw an unprecedented boom. However, inflation began rising by the end of 2005, prompting the Federal Reserve to increase interest rates. This change led to a real estate glut as low-income households, burdened by variable-rate loans, found themselves unable to meet their mortgage obligations. These risky, under-collateralized loans – known as “subprime loans” – were widespread across the balance sheets of numerous banks and had permeated the global financial system. The subsequent plunge in U.S. real estate prices deval-ued these assets drastically, leading to a systemic collapse.
High-Profile Bailouts and the Lehman Collapse
Lehman Brothers, a major U.S. investment bank, became emblematic of the financial crisis. Despite the U.S. government’s intervention to save other financial giants like Bear Stearns, Freddie Mac, and Fannie Mae, Lehman found no rescuers and declared bankruptcy. Soon after, the insurance giant American International Group (AIG) faced similar peril but was deemed too integral to fail; it was rescued by the Federal Reserve and the Treasury Department. To avert a total financial meltdown, the U.S. government launched a $700 billion bailout package.
The crisis quickly escalated into a global catastrophe. In October 2008, Iceland declared national bankruptcy. The following month, the G20 countries convened in Washington, D.C., agreeing on coordinated actions to tackle the global economic crisis and fundamental reforms to financial market regulations. By April 2009, at a G20 summit in London, stricter controls on financial institutions were mandated to prevent future crises similar to the 2007 mortgage debacle.
German Response to the Financial Turmoil
In Germany, Federal Finance Minister Peer Steinbrück assured citizens of the safety of their savings. The German government intervened to prevent the collapse of Hypo Real Estate Bank with substantial financial aid. The EU finance ministers also agreed to use EU funds to safeguard critical financial institutions. On October 18, 2008, the German Bundestag passed the Financial Market Stabilization Act (FMStG), creating a €480 billion Financial Market Stabilization Fund (FMS) to bolster banks’ liquidity and enable them to fulfill their obligations. Hypo Real Estate, along with Bayerische Landesbank, HSH Nordbank, and Commerzbank, were among the first to draw on these funds.
ifo Institute’s Perspective on Risk Distribution
The 2008 financial crisis ignited fears that unchecked speculation could lead the global economy to disaster. Hans-Werner Sinn, President of the ifo Institute from 1998 to 2016, offered a more nuanced view in his 2009 book Casino Capitalism. He argued that risk-taking drives innovation and societal progress but criticized the outsourcing of risks to third parties. Sinn contended that such practices encourage excessive financial risks because the negative impacts can be offloaded onto other investors, leading to taxpayer-funded bailouts when crises occur.
