This profound and global financial interconnectedness is precisely why the crisis spread so fast and far. Over the past several decades, the financial industry has globalized and become more concentrated; even after the crisis, this infrastructure remains largely intact. Reasons include deregulation (e.g., the 1999 repeal of the Glass-Steagall Act, which had separated commercial and investment banking operations in the United States) and the creation of new financial tools such as securitization.
During this period, the operations of various institutions (hedge funds, commercial banks, investment banks, brokerages, pension funds, insurance companies, and others) gradually became more intertwined. Banks would loan to one another, linking directly, or institutions would invest in a common asset, linking indirectly. This interdependence was inherently risky, because a problem in one institution quickly spread to its linked institutions. At the same time, functional distinctions between different types of institutions also became blurred.
That said, about twenty large complex financial institutions with vast operations—think JPMorgan Chase or Deutsche Bank—dominate global finance. In fact, a study by the International Monetary Fund (IMF) found that just eighteen institutions were responsible for over half of the losses reported by banks and insurance companies around the world during the economic crisis.
CONTAINING THE CONTAGION
In the United States, the government responded to the crisis with bank bailouts, tax cuts to stimulate spending, and direct government spending to boost the economy. In Europe, many governments pursued austerity, or deep cuts to social spending. As Greece, Iceland, Ireland, Portugal, and Spain became infected by the global financial crisis, the European Union and the IMF bailed these countries out, often with the condition that the countries cut spending. Proponents of austerity argued that it was necessary to decrease debt; opponents maintained that it did nothing to resolve the crisis while deepening the public’s misery.
The wide scope of the crisis also forced an international response. In 2008 and 2009, leaders from the twenty largest economies (known as the Group of Twenty [G20]) met to discuss the crisis, agreeing to lower interest rates, increase government spending, help countries in particular difficulty, pursue regulatory reforms, and keep international financial institutions like the IMF and World Bank well resourced. In addition, the U.S. Federal Reserve gave U.S. dollars to central banks abroad via a tool known as a swap line, so these banks had access to the principal currency used in international transactions.
NO COUNTRY IS IMMUNE
In the United States, the worst of the crisis had officially subsided by 2016. Most banks and businesses bounced back fairly well, thanks to financial regulations and extensive government spending. However, many European countries still struggle with low growth, significant debt, and high unemployment, all lasting effects of the Great Recession.