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The Financial Crisis of 2007-2008 and its Relation to Past Banking Panics and the
Great Depression
David Mitchell
Economics 425
The Financial Crisis of 2007-2008 led to much soul-searching for the populous of
the United States. The crisis was extremely severe, and naturally many recalled that what
was happening was similar to what the United States saw in the Great Depression. This
comparison is not flawed; however, it is incomplete. In many ways the Financial Crisis
had qualities that were reminiscent of the banking panics that were seen during the
National Banking Era as well. It is this fact where I believe that much of the confusion
that surrounds the crisis that lingers to this day. Where the Financial Crisis originated, in
investment banking and insurance, was very similar to the Banking Panic of 1907. The
effects of the Financial Crisis, after it had begun, were reminiscent of the Great
Depression.
Before I begin comparison of past banking panics and the Great Depression to the
Financial Crisis of 2007-2008, I believe a short overview of the recent crisis is needed. A
housing bubble is often seen as the cause of the crisis, but this is greatly flawed. As is
often the case with banking panics or financial crises, people try to lay blame on one
significant event. When in reality it is often a conglomeration of events. The esteemed
statistician and philosopher Nassim Nicolas Taleb refers to these events as Black
Swans.
1
In the run up the Financial Crisis, there was an alphabet soup of newly created
financial products such as collateralized debt obligations (CDOs), credit default swaps

1
Taleb, The Black Swan: The Impact of the Highly Improbable.
2
(CDSs), etc. These products, which were the result of financial engineering, are often
seen as a focal point of the crisis. That observation is correct, but still they were not the
only cause of the crisis. They were a major contributor to the eventual turmoil though.
This is because these products tended to be concentrated on one insurance company AIG.
The Banking Panic of 1907 was oddly similar to the beginnings of the Financial
Crisis of 2007-2008 in the fact that its eruption originated not in traditional retail
banking, but in another financial sector. In the case of 1907, it began with runs on trust
companies, particularly the failure of the Knickerbocker Trust Company. Trust
companies did not fall under the purview of the New York Clearing House. The
clearinghouse acted as a lender of last resort before the advent of the Federal Reserve
System in 1914. Investment banks, such as Lehman Brothers, and insurance companies,
such as AIG, were not under the umbrella of Federal Reserve oversight. These
organizations were not traditional retail banks, which take deposits and provide loans to
common citizens. Lehman Brothers and the Knickerbocker Trust Company were both
allowed to fail, and in the process set in motion a cascading chain events of that reeked
havoc on financial markets. In the case the Knickerbocker Trust Company, its failure
helped stoke a sense of panic in other trust companies, and multiple failures of these
companies ensued. With Lehman Brothers, its failures had far reaching implications,
most notably its negative effects on money market funds, which many corporations relied
on for short-term loans that were used to meet payroll for example.
2

Steps taken during the Financial Crisis to stem the failures or prevent further
failures of financial institutions also had historical precedent. In 1907 when the New

2
Stewart, Eight Days.
3
York Clearing House refused to extend aid to trust companies, the legendary financier
J.P. Morgan organized a cabal of other financiers to form money pools to which trouble
institutions could turn to shore up their reserves and hopefully restore confidence in their
respective institutions. A similar meeting of financial institution executives was gathered
by Timothy Geithner, chairman of the New York Federal Reserve Bank; Ben Bernanke,
Chairman of the Federal Reserve Board of Governors; and Hank Paulson, the Secretary
of the Treasury. In this meeting the discussion was on how to save Lehman Brothers, but
the talks were not fruitful and Lehman Brothers was allowed to fail.
3

The effects stemming from the Financial Crisis of 2007-2008 do bare some
similarity to those that were experienced in the United States during the Great
Depression. Before the contraction began in 1929, the unemployment rate in the United
States was less than 1% but at the end of the actual recessionary period in 1933 the
unemployment rate had risen to an enormous 25.36%.
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That number is so unfathomable;
imagine literally one quarter of the population seeking jobs not being able to find one.
While the unemployment rate never did reach such epic proportions in the recession that
followed the Financial Crisis, it was still very large. The unemployment rate in August
2007, right about the time home prices started declining in the United States, sat at 4.6%.
The National Bureau of Economic Research states that the recession actually began in
December 2007, and still the unemployment rate was only 5%, but at the end of the
official end of the recession in June 2009 it had reached 9.5%.
5
Clearly the Financial
Crisis had effects on the labor market that were similar to those in the Great Depression.

3
Ibid.
4
National Bureau of Economic Research, Unemployment Rate of United States.
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U.S. Department of Labor: Bureau of Labor Statistics, Civilian Unemployment Rate.
4
If the unprecedented efforts from the Federal Reserve and the United States government
had not been undertaken, the amount of unemployed would have certainly been much
larger. Even still with these efforts the unemployment rate did not stop rising after the
official end of the recession, it finally peaked at 10% in October 2009.
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The extraordinary
efforts taken by both the Federal Reserve and the government have been attacked from
both the left and right. Conservatives, adhering to their mainly free-market doctrine,
claimed that the failure of these firms was due market forces and therefore should have
been allowed to happen, as what happened in the case of Lehman Brothers. On the other
hand, the left attacked it as a handout to big business or corporate welfare.
There were many similarities between the Financial Crisis of 2007-2008 and past
economic turndowns in American history. These are not perfect comparisons because
none are clones of the other. Each recession, depressions, or banking panic have their
own specific qualities, much like the fingerprint of human beings. However, looking back
at history can be a great tool in learning how to deal with crisis as they happen. For
example, the policy of quantitative easing that is being employed by the Federal Reserve
to this day has its roots in economic history. This type of relief has been used before,
albeit under a different mechanism. In 1890 there was a burgeoning panic that was
brought about by the insufficiency of reserves in New York banks, and to help shore up
the reserve positions of these banks the United States Treasury, using its surplus, began to
purchase government securities that were held by these banks.
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The purchases had the
effect of injecting badly needed reserves into the financial system, and ultimately helped

6
Ibid.
7
Sprague, History of Crises Under the National Banking System, 393399.
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stop the panic in its tracks. Economists who do not look to the past for answers to the
problems we face in modern times are not doing their duty to the economics profession.
When the next crisis happens, and there will be another crisis, economists will look at the
steps taken between 2007-today as model, but they must also look farther into the past
that as well.

Works Cited
National Bureau of Economic Research. Unemployment Rate of United States. FRED,
Federal Reserve Economic Data, from the Federal Reserve Bank of St. Louis.
Accessed April 28, 2014.
http://research.stlouisfed.org/fred2/series/M0892AUSM156SNBR.
Sprague, O. M. W. History of Crises Under the National Banking System. Publications of
the National Monetary Commission. Washington, D.C.: Government Printing
Office, 1911.
Stewart, James B. Eight Days. New Yorker 85, no. 29 (September 21, 2009): 5881.
Taleb, Nassim Nicholas. The Black Swan: The Impact of the Highly Improbable. 2nd
Edition. New York: Random House Trade Paperbacks, 2011.
U.S. Department of Labor: Bureau of Labor Statistics. Civilian Unemployment Rate.
FRED, Federal Reserve Economic Data, from the Federal Reserve Bank of St.
Louis. Accessed April 28, 2014.
http://research.stlouisfed.org/fred2/series/UNRATE.