Financial Sector And Recent Economic Crisis: Searching for Reasons and Policies for Containment

Abstract

Business cycle is the natural occurrence of the market economy originating due to over production dampening the business expectation and reducing investment demand. In recent years, business cycles are occurring due to frantic activities in the financial market. Financial sector and real sectors are interconnected. The financial sector boosts consumption and investment demands in the real sector through credit or asset creation. During boom activities in financial sector is hailed for its ability to create enough liquidity in the economy to finance higher growth while during recession credit chrunch dampens the real economic activities. Recession results into large scale unemployment leading to socio-economic sufferings. The recent global recession has been a great concern world wide. Though some countries are able to cope up with this recession others are still struggling to find long term solutions. Main issue for recent recession was the role of banks in over leveraging the power of credit asset creations through distribution of risks in the asset markets. Asset markets on the other hand could not price the assets due to non transparency and complicated process involved in asset creation. Prices did not match the riskiness of the assets thus the investors were duped by the market. Also regulatory authorities could be flouted by carrying out over the counter transactions. Thus flows of hot money created instability and high risks in the system. This Paper gives detailed analysis of above aspects and then discusses why Financial stimulus of Keynesian type were used as an immediate measure. Then the paper also focused on the suggestions that are being offered for long terms reforms in the financial sector so that inherent moral hazards in the credit and asset markets can be tackled in the long run.