Financial crisis is a period of intense stress in the financial sector that can lead to a severe recession or even economic depression. The term is usually used to refer to a financial collapse that involves the loss of confidence in the financial system and its ability to lend money and make investments, leading to a dramatic contraction of credit. In the United States, this occurred in 2008 when a combination of factors led to a severe disruption of the financial system and subsequent economic collapse, including the near-failure of large banks.
This crisis is sometimes referred to as the Great Recession and was triggered by the failure or near-failure of many large financial firms, especially in the United States, and by falling house prices, which caused household wealth to plummet and investment funds to lose value. These events, along with a slowdown in global economic growth and declining corporate profits, sparked a severe panic in global financial markets as investors began to pull out their money from banks and other institutions and businesses were less willing to invest or borrow.
Some of the contributing factors include the rapid depreciation in house values, increased mortgage default and delinquency rates, the deregulation of ‘over-the-counter’ derivatives such as credit default swaps and collateralized debt obligations (CDOs) which allowed hedge funds to make large wagers far beyond the actual value of underlying mortgage loans; and the failures of credit rating agencies to correctly price risk. In addition, the crisis highlighted a lack of regulation and supervision in the financial sector.