Financial crisis containment:An analysis and evaluation of relevant actions applying a complex systemapproach

Abstract

Financial crises can be devastating. They wreak economic havoc within the economies of the relevant countries. Despite being extremely unwelcome they continue to reoccur and, interestingly, their features and root causes seem to be very similar. While there are accepted frameworks that outline the sequential stages of financial crises, the range of potential actions to contain them appear to be rarely academically assessed, or even identified. Such containment actions are diverse and undertaken by a variety of institutions. Thus, the aim of the research presented in this thesis is to provide insights that emerge from an analysis and evaluation of relevant financial crisis containment actions. The analysis is undertaken applying a complex system approach to appropriate financial crisis variables-data. Complex systems theory argues that the effectiveness of actions cannot be assessed by an isolated analysis. Side-effects and interferences from other actions may, in fact, neutralise an intended effect. However, the consequences of actions can be identified by a range of analytical techniques associated with complex systems. Against that background, using models developed from extant theories of financial crises, financial markets and financial containment, such actions are inductively analysed in terms of their sustainability, strength and impact on key indicators. Then, a “mix” of appropriate containment actions is identified with their relative effectiveness. The results of this analysis suggest that there is not a single all-embracing action that alone can contain a financial crisis. However, with varying consequences and degrees of effectiveness, there appear to be several containment actions that can help. Countries facing an isolated domestic financial crisis may apply only few actions to reach three desired key goals (i.e. increased asset prices, reduced risk of bank runs and stable foreign exchange rates). An international financial crisis however, seems to call for attention on other fronts. In these cases, central banks should arrange a harmonisation of monetary policies causing no changes of the foreign exchange rate. More containment actions are also of merit and could be applied. An historical evaluation of the identified “mix” of appropriate containment actions conducted as part of the thesis, in part, supports and strengthens the results of the systemic analysis. Implications, derived from the research, point to a weighted combination of effective containment actions that can be taken by central banks, governments and regulators when attempting to contain financial crises.