This was more evident for securities firms and may reflect the opening of the Primary Dealer Credit Facility (PDCF) that allowed primary dealers to obtain liquidity from the Federal Reserve on a collateralized basis. Following the bankruptcy of Lehman Brothers in September 2008, these CDS prices increased dramatically. In response to the deterioration in the economy as well as to mounting loan losses, banks tightened their lending standards and credit spreads increased. This can be seen using data from the Federal Reserve’s Senior Loan Officer Opinion Survey (Chart 10). Values above zero represent tightening of standards, widening of spreads and weaker loan demand. All three were taking place as the economy entered the recession. A consequence was a sharp contraction of lending activity (Chart 11). To the extent that the decline in lending was not completely due to lower loan demand, then this credit contraction exacerbated the decline in real activity – creating what is called an adverse feedback loop between the financial and real sectors of the economy. The Federal Open Market Committee (FOMC) reacted aggressively in response to the recession and financial crisis. The FOMC quickly lowered its policy rate – called the federal funds rate – to essentially zero (Chart 12). The aggressive pace for lowering the fed funds rate reflected lessons learned from Japan’s earlier experience dealing with a housing market boom and bust. At the same time, the FOMC increased its provision of liquidity to the financial system.
In this recession, there was an actual decline in consumption rather than just a slowdown (Chart 2). When households need to cut back on their consumption, they typically do so first with durable goods – for example, by delaying the decision to replace a car or to trade up to a nicer house. It is no surprise then that auto sales dropped significantly (Chart 3). Housing starts had been declining since late 2005, and the decline continued during the recession (Chart 4). Producers reacted quickly to the sharp decline in consumer demand, but inventories still rose sharply relative to sales (Chart 5). In order to realign production to the declining level of demand, firms quickly cut their staffing levels, which resulted in a rapid rise in unemployment across all age groups (Chart 6). From the peak in December 2007 to the end of the recession, private non-farm payroll employment declined by 7.3 million jobs – bringing employment below its level in January 2000 (Chart 7). The severity of the Great Recession is very apparent when you realize that an entire decade’s worth of job growth was lost. Household wealth declined sharply as well during the Great Recession due to losses both in equity and real-estate wealth. The household saving rate increased in reaction to this negative shock to household wealth (Chart 8). Several factors were likely behind the higher saving rate. First, as already noted, households likely increased their saving rate to begin to rebuild their wealth.