IGTA Journal - Autumn 2017

William C Dudley: Lessons from the financial crisis Remarks by Mr William C Dudley, President and Chief Executive Officer of the Federal Reserve Bank of New York, at the Economic Club of New York, New York City, 6 November 2017. * * * James Bergen, Caren Cox, Gerard Dages, Beverly Hirtle, Anna Kovner, Lisa Kraidin, Lorie Logan, Jonathan McCarthy, and Kevin Stiroh assisted in the preparation of these remarks It is a pleasure to have the opportunity today to speak again at the Economic Club of New York. As we mark the tenth anniversary of the onset of the financial crisis, I would like to focus on some of the lessons we should draw from that harrowing experience, and the implications of those lessons for regulatory policy going forward. As always, what I have to say reflects my own views and opinions and not necessarily those of the Federal Open Market Committee or the Federal Reserve System. The first lesson is that financial crises can have grave consequences—for the economy and the nation—that can linger for many years. The toll from the financial crisis was severe, with nine million jobs lost and eight million housing foreclosures amid the deepest economic downturn since the Great Depression. Moreover, the road back has been long and slow. Despite economic policies oriented toward supporting recovery, it has taken eight years to push the unemployment rate down to a level consistent with the Federal Reserve’s employment objective. Other residual impacts include the large size of the Federal Reserve’s balance sheet; significantly higher public debt; and substantial damage to public trust in the nation’s government and financial institutions. The second lesson follows from the first. We need to ensure that we have a resilient financial system. To that end, we must ensure that the safeguards put in place in response to the crisis are fully appreciated and respected. But, it also means that we need to finish the job—for example, by building out a fully workable regime for resolving a complex, global firm if one were to become insolvent. We need to ensure that our financial system can continue to provide critical services not just during good times, but also during periods of stress. These objectives are particularly relevant today, when reopening the Dodd-Frank Act and modifying our regulatory framework are under consideration. While it is appropriate to evaluate adjustments that might improve our regulatory regime, it is critical that we do not forget the hard- learned lessons of the crisis and—in the haste to reverse course—undermine the robustness and resiliency of the financial system. The U.S. housing market boomand bust At the heart of the crisis was the U.S. housing boom and bust. Between 1997 and 2006, U.S. home prices nearly doubled in real terms on a national basis. Then, when the boom turned to bust, real home prices reversed course, declining by about 40 percent on a national basis, with larger price declines in several states . The magnitude of the national price declines was unprecedented during the postwar period. The evolution of the financial crisis illustrates a number of key issues, including the potential hazards of financial innovation, the procyclicality of the financial system, and the importance of confidence in sustaining effective financial intermediation. The housing boom resulted from several factors. Innovations in subprime mortgage lending enabled moderate-income households to purchase homes with negligible down payments. This led to an increase in the demand for housing, which helped push up home prices. Home price appreciation masked the potential riskiness of such lending and, in turn, sustained the wisdom of 1 1 / 7 BIS central bankers' speeches IGTA eJournal | Autumn 2017 | 53