Tyler Atkinson, David Luttrell and Harvey Rosenblum — How Bad Was It? The Costs and Consequences of the 2007 - 09 Financial Crisis

Abstract

The 2007.09 .nancial crisis was associated with a huge loss of economic output and .nancial wealth, psychological consequences and skill atrophy from extended unemployment, an increase in government intervention, and other signi.cant costs. Assuming the .nancial crisis is to blame for these associated ills, an estimate of its cost is needed to weigh against the cost of policies intended to prevent similar episodes. We conservatively estimate that 40 to 90 percent of one year.s output ($6 trillion to $14 trillion, the equivalent of $50,000 to $120,000 for every U.S. household) was foregone due to the 2007.09 recession. We also provide several alternative measures of lost consumption, national trauma, and other negative consequences of the worst recession since the 1930s. This more comprehensive evaluation of factors suggests that what the U.S. gave up as a result of the crisis is likely greater than the value of one year's output.
The Second Great Contraction.in the U.S. was the result of a consequence of factors: bad loans made by banks, ratings agencies falling down on the job, lax regulatory policies, misguided government incentives that encouraged banks to be reckless in their lending, and even monetary policy that kept interest rates too low for too long.1


The Second Great Contraction, the worst economic downturn since the 1930s, was unusual because it stemmed from an easing of credit standards and an abundance of financing that had fueled the prior expansion. This fuel also helped create imbalances. an overextension of mortgage financing and capital market financial intermediation. A housing collapse and credit shocks, culminating in a financial crisis, hit the economy as these financial practices generated new losses. Home construction plunged, the stock market crashed, commodity prices tumbled, job losses mounted, credit standards tightened, and short-term funding markets seized up.

Despite extensive reviews of the causes and consequences of the 2007.09 financial crisis, we find few estimates of what it cost — the value of what society gave up. Such a figure would help assess the relative expense of policy proposals designed to avoid future episodes. Although any estimate of the toll exacted by the recession is bound to be incomplete. for example, there may well be future costs not yet recognized. this paper offers an analytical starting point.

It is not difficult to understand why such accounting exercises are rare: They require comparing a world in which no financial crisis occurred to what actually happened and what is likely to transpire. This paper attempts to measure what was lost or foregone as a consequence of the crisis, recognizing that not all costs have a dollar value associated with them. We define the cost in terms of how much worse of society is as a result of the financial crisis. We include consequences that were not directly caused by the crisis but would not have occurred in its absence. Many of these consequences are intangible or di¢ cult to measure. The cost is at least equal to the economic output that would have been produced but was not — 40 to 90 percent of one year's output. But in light of the less-tangible consequences, the total cost likely exceeds the value of one year's output.

Federal Reserve Bank Dallas — Staff Papers
How Bad Was It? The Costs and Consequences of the 2007 - 09 Financial Crisis
Tyler Atkinson, David Luttrell and Harvey Rosenblum

(h/t Naked Capitalism)