No one dared to lend money to anyone else because of fears that the other party could go bankrupt and the money that had been lent would disappear. What triggered the financial turmoil almost two years ago was problems in the US housing market. After several years of rising rapidly, house prices began to fall in autumn 2006. At the same time economic activity in the United States began to slow down. An increasing number of borrowers experienced difficulties in paying their interest and instalments. This applied in particular to borrowers with subprime loans. Mortgage institutions had often packaged subprime loans together with other loans in what were known as structured products, which had been sold mainly to investors in the United States and Europe. When credit losses increased it was difficult to determine who owned the high-risk assets and how large these risks were. But the underlying causes of the current crisis are more than just subprime loans and the new financial products. One important cause is the imbalances in the global financial system that have developed over a long period of time. Savings have been too small in the United States and too large in China and the oil-producing countries. The United States has had large deficits in its current account while other countries have had large surpluses. At the same time, monetary policy has been very expansionary in the United States, with low interest rates.
International developments will be weak this year The world economy was in a slowdown phase even before September 2008. Since then the deterioration in the world economy has been rapid. All of the large, developed economies are now in recession. During the fourth quarter of last year GDP growth in the United States and the euro area fell by around 6 per cent calculated on an annual rate. In Japan the fall was even greater, more than 12 per cent calculated on an annual rate. In the wake of the weak development households and companies have become more pessimistic about the future. Confidence indicators have been in free fall and are now at alltime lows in many countries. For example, the purchasing managers index has never before been so low. Share prices have largely halved since the top levels in 2007. The great uncertainty is also reflected in the large fluctuations in stock market rates. For the world as a whole we are now expecting more or less zero growth this year. Growth and developing economies appeared for a long time to be coping relatively well. But they have now also been affected by the crisis. In China, growth slowed down significantly during the final quarter of last year. The oil-producing countries in the Middle East and Russia have  BIS Review 25/2009  3  also experienced a sharp slowdown in economic activity. A few years ago GDP growth in the growth and developing economies was on average around 7 per cent a year.