Briefing Note: Financial Crisis and Implications on Regulation

In: Business and Management

Submitted By tttinayoung
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Briefing Note
Introduction
In 2007 to mid-2009, the world has suffered the worst financial crisis since the Great Depressions in 1920s. This followed by a wave of economic downturn. Learnt from the crisis, it is suggested that a forceful response by regulators, may help prevent deteriorating further. The objective of this note is to identify the crisis effects on both the financial system and the economy and to provide implications on further financial regulations.
Effects
Financial System: Many institutions collapsed in the USA and Europe within the period. Figure 1 directly shows a considerable rise of the number of bank failure particularly from 2008 to 2010 in the U.S. This deteriorated the macro-structure of many developed countries. Firms called for ‘bailouts’ or recapitalization from governments to help stabilize the financial system. Or, others were closed, forcibly merged with stronger counterparts, or recapitalized using taxpayer’s money. More effects are given below: 1. Banks have been hit hardly by deteriorating capital & liquidity problems and worsening market confidence. * Global banking sector lost almost half of the capital base at the beginning of the crisis in 2007 (Lybeck, 2011). * Low central-bank interest rate: concerns over deflation by monetary policy makers resulted in long-term low interest rates. Figure 2 presents that in the U.S., a slump of 4% in Federal Funds Rate to nearly zero in 2010 while Bank of England has held rates as low as 0.5% for more than three years. * It led to a credit crunch in many developed countries, with annual credit growth between 7% and 10% in the US and the UK from 2003 to 2007 (Valdez, and Molyneux, 2010). * It encouraged the desire of financial institutions to take more risks (high leverage & risky financial instruments, e.g. CDS or CDOs) for higher returns * High…...

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