Financial crises: Lessons from history

The current market jitters are centred on disturbances in the world’s credit markets. Worries about the viability of sub-prime mortgage lending have spread around the financial system, and the central banks have been forced to pump in billions of dollars to oil the wheels of lending.

But what happened in previous financial crises, and what are the lessons for today?

There have been a growing number of financial crises in the world, according to the International Monetary Fund (IMF).

Among the key lessons of previous major financial crises are:

 

• Globalisation has increased the frequency and spread of financial crises, but not necessarily their severity 
• Early intervention by central banks is more effective in limiting their spread than later moves 
• It is difficult to tell at the time whether a financial crisis will have broader economic consequences 
• Regulators often cannot keep up with the pace of financial innovation that may trigger a crisis.

 

During the late 1990s, stock markets became beguiled by the rise of internet companies such as Amazon and AOL, which seemed to be ushering in a new era for the economy.

Their shares soared when they listed on the Nasdaq stock market, despite that fact that few of the firms actually made a profit.

The boom peaked when internet service provider AOL bought traditional media company Time Warner for nearly $200bn in January 2000.

But in March 2000, the bubble burst, and the technology-weighted Nasdaq index fell by 78% by October 2002.

The crash had wider repercussions, with business investment falling and the US economy slowing in the following year, a process exacerbated by the 9/11 attacks, which led to the temporary closure of the financial markets.

But the Federal Reserve, the US central bank, cut interest rates throughout 2001, gradually lowering rates from 6.25% to 1% to stimulate economic growth.