It is hard to overstate the sheer economic cost of the 2008 financial crisis. The combination of increased expenditures and decreased revenues resulting from the crisis from 2008 to 2010 is likely to cost the United States government well over $2 trillion, more than twice the cost of the 17-year-long war in Afghanistan. Broader measures are even more damning. Measured by decrease in per capita United States GDP compared to the pre-crisis trend, by 2016 the crisis had cost the country 15% of GDP, or $4.6 trillion. Such numbers are too vast to be understood in any meaningful way, but one on a smaller scale may be even more powerful. A 2018 study by the Federal Reserve Board found that the crisis cost every single American approximately $70,000. Just in dollar terms, the crisis was arguably the most significant event of the 21st century so far, and the largest single economic downturn since the Great Depression. If the only effects of the financial crisis were economic, it would still be worth revisiting 10 years later.
But the most important effects of the financial crisis may be political and social, not economic. The years after the crisis saw sharp increases in political polarization and the rise of populist movements on both the left and right in Europe and the U.S., culminating in Brexit in the UK and the election of Donald Trump here — by some measures the country’s most polarizing president ever. Such increases in political divides are a predictable response to financial crises across eras and countries. Even the economic recovery experienced by the U.S. and, to a lesser extent, Britain, is not enough to neutralize the long-term political and social effects of the collapse.
The severity of the crisis was such that probably no government response could have eliminated these political and social consequences; when the economy collapses, people will suffer, and they will blame the people in charge. In my opinion, the way that the Bush and Obama administrations chose to respond to the crisis greatly exacerbated the change in American political culture produced by the crisis.
Fundamentally, the American (and world) economy was crippled by the actions of the leaders of the American financial sector, and the U.S. government chose to “punish” those leaders by giving them enormous sums of money through bailouts. This may have been the right decision. It may have been necessary to prevent a second Great Depression. It might even have been economically optimal, in the sense that it prevented an even worse outcome at the lowest possible cost (I do not believe this, but let’s assume it is true for the sake of argument). It nonetheless strikes most Americans as fundamentally unjust.
Justice is generally conceived of in one of two ways. The first, and more common, one is that justice is fairness. In a fair world, good behavior is rewarded and bad acts (usually meaning acts that contravene generally accepted norms) are punished. Economists and people with significant training in economics, however, often conceive of justice as efficiency — that is, the just outcome is the one that maximizes welfare. Although this is how economists often see it, most people have a very different perspective. Psychology experiments show that most people — and even monkeys! — believe that justice is fairness, and believe it so strongly that they will pay significant costs to protest unfair outcomes. People given the chance to punish someone who has betrayed them in a game, for example, will generally take it even if doing so leaves them worse off. They explicitly choose fairness over efficiency.
The arguments in favor of the government’s response to the financial crisis — ranging from TARP, to the nationalization of AIG, to allowing bailed-out banks to continue to pay bonuses to their employees — all hinged on the logic of justice as the rescue of the American economy at the lowest possible financial cost. These arguments, however, entirely ignore the powerful and far more common belief that justice is fairness. Efficiency may have required rewarding people who had acted badly and punishing the blameless — but that did not make it fair.
One way to highlight the scale of this unfairness is to look at the contrast between how bailed-out banks and automotive companies were handled. When the government rescued major American banks, it did not fire even one of their CEOs. The bailouts did not prevent the banks from generously paying their executives, and paying dividends to shareholders, rather than retaining capital to increase stability. When the government bailed out AIG, it did not impose a single penny of loss on any of AIG’s creditors. If you were a player in the American financial system, the government did everything possible to make sure that you did not suffer consequences from the crash your industry had caused.
When GM and Chrysler were bailed out, on the other hand, their CEOs were fired and their unionized workforces were forced to accept substantial pay cuts, even though they had nothing to do with the causes of the crisis. Each individual decision may, in some sense, have been the right one when measured purely in terms of economic efficiency. In aggregate, however, they gave the appearance of a government willing to spare no expense to shelter Wall Street from the consequences of its own mistakes, while largely unwilling to make similar efforts for others.
Perhaps even worse was the extent to which the government focused its efforts on stabilizing the financial sector instead of directly aiding most Americans. This was best symbolized by former Treasury Secretary Timothy Geithner’s approach to the response to the financial crisis. He explained, for example, why the Home Affordable Modification Program (HAMP), which was meant to help Americans who were facing eviction because they were unable to pay their mortgages, had done little, because its real purpose was to “foam the runway” for banks that had made the loans — that is, he saw it as a program meant to help banks, not the customers to whom they had made loans, often under predatory terms.
Even if we accept the argument that focusing almost entirely on the health of the financial sector was the best way to handle the crisis, this approach creates a series of problems. It largely removes any pressure on the sector to permanently change the behaviors that led to the crisis. Even worse, though, it corroded the bonds of trust required for the functioning of democracy.
It’s entirely reasonable that many voters would lose trust in the governing elite. And when that trust is broken, democratic populations will turn to politicians who promise to overturn that elite, whether it’s Donald Trump, Bernie Sanders, Boris Johnson, or Nigel Farage. Populist movements often turn to outsiders to lead them. The problem with voting for complete outsiders, however, is that they don’t have a track record. You don’t know what they really believe. And they don’t always know how to pull the levers of power. Once in office, they can turn on you and pursue policies very different from the ones they promised, they can be manipulated by insiders, or they can simply be ineffective in trying to enact their agenda. The result is either more of the same or a government that is so discombobulated that it cannot function.
We can see different versions of this unfolding now in both the U.S. and UK. In the UK, within days of winning the vote to leave the EU, leading Brexiters started walking back key campaign promises to redirect EU funding toward Britain’s national health services, cut immigration, and harden Britain’s borders. Now, two years after the vote, the government has been unable to cobble together a deal to actually leave the EU. The result has been a government frozen in inaction, constant threats to PM Teresa May’s authority, the resignation of key officials, and continued confusion about what to do next.
In the U.S., Donald Trump has been either unable or unwilling to aggressively pursue the populist policies he promised during the campaign, with the exception of cutting back on refugee admissions and, to some extent, imposing tariffs on foreign trade. During his campaign, Trump promised to raise taxes on the rich and repeatedly attacked Goldman Sachs (and attacked his opponent for giving paid speeches to them). Once in office, he has cut taxes on the wealthy, filled his administration with Goldman alums, and sought to limit the power of the Consumer Financial Protection Bureau — in essence, rewarding the financial elites whose failure helped lead to his election.
The task facing May’s and Trump’s successors is simple. He or she, Democrat or Republican, Labour or Tory, must break this cycle. He or she will have to have both the will and the skill to address major concerns about the economy, ranging from stagnating median income to increasing inequality to the fundamental economic insecurity of most people. Beyond that, however, the two successors must govern in a way that is seen to be just. That means, for example, demonstrating that those who break the law will be punished, even if they are wealthy and powerful. A leader seeking to assuage these sorts of concerns, for example, might seek to emphasize white-collar crime, which is still too often ignored by prosecutors, and for which the overall number of prosecutions in the U.S. is at a 20-year low. Whatever their approach, future leaders should be guided by the idea that has always underpinned democratic societies — justice is about much more than economic efficiency. It fundamentally also requires fairness.