Financial markets crashed ten years ago. What happened? If we are to learn from the past, we must first remember the past.

In September 2008 I was the CEO of a financial institution – Yankee Farm Credit, part of the national Farm Credit System. I had worked for Farm Credit for 24 years and I had been CEO for 2 years. Yankee Farm Credit was small ($320 million in assets at the time), but the Farm Credit System in total is a large financial institution ($186 billion then).

Ten years ago today two large financial institutions failed. These institutions were not typical financial institutions. They were a certain type of financial institution known as Government Sponsored Enterprises (GSEs). There are only four significant GSEs in the United States. The Farm Credit System is a GSE. This financial crisis had my attention.

What is a Government Sponsored Enterprise? A GSE is a financial institution created by Congress to provide credit to a specific sector of the economy. The Farm Credit System is the oldest GSE, having been created by Congress in 1916 to provide credit to agriculture.

Congress subsequently created three more GSEs to provide credit to the housing sector:

• the Federal Home Loan Bank System (FHLB) in 1932
• the Federal National Mortgage Association (Fannie Mae) in 1938
• the Federal Home Loan Mortgage Corporation (Freddie Mac) in 1970

Although the Farm Credit System in total is a large financial institution, each of the three housing GSEs is much larger. This graph shows the size (total assets) of these four GSEs as of the end of 2007, just before the financial crisis:
The Federal Home Loan Bank System and the Farm Credit System survived the financial crisis of 2008. Fannie Mae and Freddie Mac had a different story.

Major events in September 2008:

Weekend of Sept. 6-7: The government took control of Fannie Mae and Freddie Mac. The technical term is that they were placed into conservatorship. The CEOs and boards of directors were dismissed. The Federal Housing Finance Agency assumed control.

Weekend of Sept. 13-14: The government allowed Lehman Brothers, an investment bank, to fail. Lehman Brothers filed for bankruptcy on Monday, Sept. 15 – the largest bankruptcy in U.S. history. Bank of America bought Merrill Lynch in a fire sale. At the beginning of the year there were five investment banks on Wall Street: Bear Stearns (acquired by J.P. Morgan Chase in a forced sale in March), Lehman Brothers, Merrill Lynch, Morgan Stanley, and Goldman Sachs. Only two were left after this weekend.

Week of Sept. 15-19: The government rescued American International Group (AIG) from a liquidity crisis, and effectively assumed control of the large insurance company. The Reserve Primary Fund, a large money market fund, “broke the buck” (i.e., was unable to maintain the $1.00 share price that money market funds promise). The government announced that it was working on a plan, of a size not yet determined, and subject to Congressional negotiation and approval, to shore up financial markets.

Weekend of Sept. 20-21: The size of the government bailout plan was announced at $700 billion. Negotiations began with Congress. The last two investment banks on Wall Street (Goldman Sachs and Morgan Stanley) agreed to become commercial banks, subject to regulation by the Federal Reserve. The investment banking model died.

Week of Sept. 22-26: Washington Mutual failed in the second largest bankruptcy in U.S. history. Its assets were sold to J.P. Morgan Chase. Negotiations continued on the $700 billion plan.

Weekend of Sept. 27-28: Citigroup agreed to purchase Wachovia in a forced transaction. (In early October the buyer switched from Citigroup to Wells Fargo.) Negotiations were finalized on the $700 billion plan.

Monday, Sept. 29: The U.S. House of Representatives voted down the $700 billion bailout plan by a vote of 205-228. The Dow Jones Industrial Average (DJIA) dropped 777 points (7%) – the largest 1-day point drop in the DJIA’s history at the time. (But the largest 1-day percentage drop was 23% on October 19, 1987.)

A revised government bailout, still $700 billion, was passed in early October, but institutions continued to fail. The financial turmoil eventually forced two auto companies, Chrysler and General Motors, into bankruptcy in 2009. Six of the ten largest bankruptcies in U.S. history occurred between September 2008 and June 2009: Lehman Brothers (#1), Washington Mutual (#2), General Motors (#4), CIT Group (#5), Chrysler (#9), Thornburg Mortgage (#10). [source]

The U.S. economy as measured by gross domestic product (GDP) tanked during the financial crisis and was slow to recover. The graph at the top of this post shows quarterly GDP for the 10 years before and after 2008, as a percent change from a year earlier. Recessions are shaded. [source] Below is a larger version of this graph:

GDP fell 3.9% in Q2-2009. In the 10 years prior to Q3-2008, GDP growth was robust, exceeding 4% more than one-fourth of the time (12 of 40 quarters), both before and after the 2001 recession. In the 10 years beginning Q3-2008, GDP growth has been anemic, never reaching 4% and reaching 3% only a few times (4 of 40 quarters).

Both interest rates and inflation were significantly lower in the 10 years after the financial crisis.

How did the stock market perform? The pre-crisis high for the DJIA was 14,165 on 10/09/07. It had fallen to 11,221 (down 21%) by 9/05/08, just before the timeline above. It reached a low of 6,547 on 3/09/09 – a total decline of 54% in 17 months. That was bad, but not as bad as the Great Depression. Three other bear markets for reference:

• Stock market downturn of 2002: the DJIA fell 31%
• Stock market crash of 1973-1974: the DJIA fell 45%
• The Great Depression: the DJIA fell 89% from 1929 to 1932

The DJIA has recovered nicely since 2009, closing yesterday at 25,996.

The 2008 financial crisis began in the final months of President George W. Bush’s administration. Campaigning to succeed him were Senators John McCain and Barack Obama. The financial crisis may have hurt Senator McCain’s election prospects, because he was of the same political party as President Bush who was blamed by some for the crisis, and also because of the way that Senator McCain responded to the crisis. In any event, this is a poignant time to recall that election with the recent death of Senator McCain. Former presidents Bush and Obama both spoke at McCain’s memorial service at the Washington National Cathedral on Sept. 1, 2018.

Yankee Farm Credit has a blog which I started in the fall of 2007. I wrote several posts on that blog about the financial crisis as it was unfolding in the fall of 2008, and into 2009. This post is drawn in part from those posts. For reference, some of those posts were:

2008
Sept. 8 – Fannie and Freddie, Part 1 and Part 2
Sept. 30 – Financial Markets, Part 1 and Part 2
Nov. 10 – Financial Markets, Part 1 and Part 2

2009
Jan. 9 – Interest Rates
Feb. 2 – Inflation
Apr. 12 – What is a GSE?
Apr. 13 – GSE Financial Results for 2008