Crisis Economics Debate Research Paper
By the time the spring of 2007 was approaching, it had become clear to various pundits that the housing bubble had ruptured, and it was expected that delinquencies on the United States mortgages particularly subprime were destined for expansion in a significant way. By that time, however, few pundits were aware that this would become a significant threat to the United States’ economy. It was also barely recognized that the financial crisis would not be experienced in the United States alone but would spread intensely to other countries including the United Kingdom, continental Europe, and far away. One man who raised an alarm about the 2008 financial crisis was Nouriel Roubini and consequently, he was branded “Dr. Doom” for predicting dark days ahead. In his book together with Stephen Mihm, “Crisis Economics” Roubini calls for measures to prevent another crisis from occurring. The manuscript sees the current practices related to finances as timid and calls for urgent rising to arms. However, some of the critics of the book argue that the governments are being cautious, and this is far from being timid. There are many alternative solutions offered to avert any global crisis including Keynesian instructions. This, however, depends on what triggered the crisis and how this need to be avoided. What Roubini and his critiques agree is that amidst the ruins of a city after a disaster, it is easy to measure the impacts of that particular tragedy. However, they differ on how the city needs to be rebuilt and reinforced. In that connection, two critical questions emerge. First, what measures need to be taken to make the financial statement stronger? Second, is another crisis reckoning and are we in the same scenario as we were before the crisis?
The Debate Addressed by Roubini’s Book
According to Roubini and Mihm (2010), for the preceding five decades, academic economists, wall street traders, and almost every person concerned about the global economy have been led to believing that there are unlimited benefits that are achieved by having unregulated markets as well as wonders of financial innovation. However, the financial crisis experienced in 2007 challenged these notions and what is worrying is that nothing is being put in place to replace the existing systems.
According to the man who predicted doom prior to the crisis, United States is the culprit in this reluctance as with other advanced economies, and the proposals that are presently being considered are nothing better than timid. Despite countries being victims of the worst ever financial crisis in generations, most of them have shown unbelievable reluctance to institute the relevant wholesale reforms that are needed to bring financial systems to heel.
What governments are doing appears as if the crisis was a consequence of a few bad mortgages. According to Roubini and Mihm, there is a need for constant financial innovation, and it would be ridiculous for any administrator to heed to a response whose only objective is protecting us against a 100-years storm. From their point of view, it is ignorant to refer to the financial crisis as a once-a-century event.
What policy makers fails to see is that countries like the United States have faced a number of economic crisis since their formation. For instance, between 19th and 20th century, several crippling panics and depressions hit United States of America. According to Roubini, the 2007 global crisis was more of a sub-prime financial system as opposed to the popular believes that it was caused by sub-prime mortgages.
This was occasioned by a collapsed financial system characterized by warped compensation structure, corrupt rating agencies with the global financial system rotting within and without. According to the book, “Crisis Economics” the financial predicament just ripped the sleek as well as gleaming skin off what had developed to a gangrenous mess over the years.
Recovering from the effects of the crisis is not a short journey and solid measures will need to be undertaken. Traders and bankers, as an initial step, need to be provided compensation in a manner that brings their interests in tandem with those of the shareholders.
That does not necessary translate to less reimbursement, even if this would be appropriate for other motives, but it only suggests that personnel of financial entities should be compensated in a manner that they are encouraged to look out for the long-term interests of their organization. Another measure that the book “Crisis Economics” proposes is a complete overhaul of the securitization.
Use of simplistic measures including requesting banks to retain some risks are not sufficient and what is needed is reforms that are more radical in the entire financial systems, which will enhance transparency and standardization. The products of securitization pipeline, according to these economics, further need to be heavily regulated. One of the most critical thing that ought to be done is ensuring more enhanced scrutiny of loans going to securitization pipeline. Moreover, the mortgages and other loans need to be of excellent quality and in case not, they should be unequivocally identified as less than prime implying they are risky.
There are a number of critics of this view who believe that securitization have no space in the modern financial sector. According to Roubini and Mihm (2010), this is shortsightedness as properly reformed securitization can be a cherished tool that has the ability to reduce as opposed to exacerbating systemic risks. This is however not possible as things stand and there is a need to have far more transparent and standardized financial systems.
Talking of standardization, presently there exist minimal standardization concerning how the asset-backed securities are enjoined. The fine print is varied from one offering to the other while monthly reports shows great discrepancy in terms of details that are provided in them.
Such information need to be harmonized and amassed in a single station. This accordingly should be done via private means or rather under patronage of federal administration. For instance, the Securities and Exchange Commission (SEC) could make it necessary for anyone allotting asset-backed products to reveal a number of standard facts on the whole lot from original loans or assets to what is waged back to people or institution where the security came from.
According to Roubini, it does not matter how information is standardized as long as it is done. It is very necessary to have means of comparing the different kinds of securities to ensure they are priced accurately. Currently, the problem being experienced is the challenge of comparison as a result of lack of standardization, which would make appraisals easier. Once we are able to achieve standardization, it will be possible to create more liquid as well as transparent markets for these securities.
It is a fact that removing all the bad loans can never be achieved as banks are bound to always make mistakes. According to Roubini, the banks should be compelled to retain more capital in addition to maintaining higher levels of liquid assets. According Roubini the legislation by the Congress is not sufficient. Even though the directive would sanction regulators to strengthen capital in addition to liquidity rulebooks, the statute still provides some guidelines at the discretion of the regulators. According to Roubini, so much discretion need not be given to the civil servants.
Another radical suggestion by Roubini concerns capital requirement. From his assessment, it would be prudent to force financial businesses to preserve capital, which is proportionate to all the jeopardies that are brought about by their several units. Such a requirement would have the effect of reducing leverage as well as profits, which would ideally send a message that bigger is not better leading to firms breaking themselves up.
Argument against Nouriel Roubini Views and Keynesian View
Critics agree with Roubini’s claim of having predicted the economic crisis experienced in 2007. However, they argue that the ideas presented in Roubini’s book are quite the same as liberal theories. According to some critics, the authors shows contempt to the free market and does not put into consideration the massive overheads occasioned by environmental dogmas and provide no remedy to the loss of labor due to companies outsourcing overseas.
The authors are also criticized for their perceived failure to fault the political leadership or the FED for their contribution to the housing fizz as well as their inability to contain it before developing to such a threat. According to Richman (2011), Nouriel Roubini downplayed the role played by Reinvestment Act 1977, which had FED as one of its administrators.
Richman asserts that the FED ought to have turned down its appointment as an administrator of the Act, which would have ensured that it retained its freedom of operation in relation to the banks. Raymond Richman, Jesse Richman, and Howard Richman all agrees that the bubble was not caused by the act itself but rather the actors who implemented it over the years the housing bubble was happening. For instance, President George Bush enabled ACORN as well as other leftist neighbor organization to “blackmail” the major financial institutions by making it compulsory to hold open meeting where the consumers had an opportunity to complain about the shortcomings of the bank response.
The view of Roubini that the direct foundations of the housing fizz was the securitization of unproductive loans, variations of the corporate control and reimbursement schemes, lack of appropriate monetary policy, as well as years of government policies that favored home ownership for the disadvantage is challenged. The critics argues that even though financial innovation had a hand in in spreading the risk around the world, this did not lead to a bubble. According to the criticizers of Roubini’s assertions, a bubble is caused by acquisition by too voluminous institutions, financiers, as well as wheeler-dealers who act believing that nothing is likely to stop the trend.
The declarations expressed in the book “Crisis Economics” by Roubini and Mihm (2010) are basically seen as the adoption of the conventional Keynesian approach. According to Richman (2011), if United States were to follow Roubini and Mihm’s strategy of curtailing stimulus outlay or tightening the pecuniary reins with the recovery process barely having commenced, it would risk recapping the same blunder today. From his assessment, this is Keynesian imagination as even Obama’s Recovery Bill of 2009 failed terribly and never produced Keynesian Multiplier. What it did was merely increasing GDP by the amount of deficit.
Marxism vs Keynesian on Crisis and Solutions
There are two predominant views that come when we talk about the financial crisis and the measures needed to avert another one from happening. The book by Roubini and Mihm seems to have relied more on Keynesian explanation of the crisis. In the face of the predicament, several economists revived interest on the theory of John Maynard Keynes who was a British scholar who promoted several measures in the face of depression on 1930’s including increased government spending.
Such economists supporting the assertion of Keynes model including Roubini and Mihm identify a recurring logic to the financial bubbles experienced. According to the proponents of this model, at the time of the crisis and preceding it, speculation came in few forms, which was a result of financial deregulation that occurred both within nations and between states.
With repackaging of possessions, which were being approved, major banks globally took a piece of the pie and consequently went belly-up in mid-2008. This means that monetary resources require to be reined in (Bellofiore, 2016). Another thing that the proponent of the Keynesian uses when explaining the crisis is the existence of global imbalances. According to writers taking this perspective, vast US trade shortfalls were complemented by surplus in Germany, Japan, as well as China.
The surplus republics acquired huge reserves of American dollars while financial tides ran in the contrary course back to the US. The third assertion of the Keynesian Model highlights the challenges that came with deficiency in demand. Accordingly, fall in earnings as a factor of overall national proceeds aggravated this and led to augmented pressure to borrow on part of the staffs (Coddington, 2013).
Explain how a variety of actors and processes (both domestic and global) coalescing within the United States facilitated a financial contagion that eventually spread across the globe
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