A financial crisis is any event or series of events that causes a sudden loss in value for certain financial assets. This can include banking panics, credit crunches, the bursting of financial bubbles (like the famous tulip mania in the 17th century) and sovereign defaults. Financial crises can affect a single country or region, or even the entire world.
The global financial crisis of 2007-2009 started with a downturn in the housing market and quickly spread from the United States to the rest of the world through interconnected financial markets. Many banks incurred huge losses and required bailouts to avoid failure, and the world economy entered its worst recession since the Great Depression.
It is important to understand what happened in order to prevent future crises. In general, the root cause of the crisis was a buildup of subprime mortgage debt. This occurred when investment banks created collateralized debt obligations from mortgages bundled with other debt and sold them on the secondary market. These investments were not highly regulated, and their complexity, lack of transparency, and high leverage made it difficult for investors to evaluate the risk they posed.
The main responses to the crisis included government and central bank action such as lowering interest rates, reducing or eliminating deficits, and purchasing large quantities of financial securities to support dysfunctional markets and stimulate economic growth once policy interest rates had reached near zero (a practice known as quantitative easing). Individuals can prepare for a personal financial crisis by creating an emergency fund with enough money to cover three to six months’ worth of expenses and income; tracking spending and budgeting; establishing savings goals; and eliminating unnecessary debt.