4.5.4 The Global Financial Crisis Flashcards
What is financial market failure?
This is when the free financial market fails to efficiently allocate its financial assets (at the social optimum) such as loans causing for allocative inefficiency. The overconsumption and overproduction of financial assets such as the lending of risky loans is what led to the financial market failure and global financial crisis.
How was moral hazard a factor contributing to the golabl financial crisis?
Banks and financial instituitions knew of their importance to the economy therefore were able to engage in moral hazard and risky behaviour where they knew that if they engaged in risky behaviour, the costs would be bared onto the BoE or the goverenment as financial instituition knew they could just be bailed out. This was a factor in contributing to the financial crisis.
Banks were “too big to fail”
How did sub-prime mortgages contribute to the global financial crisis?
Sub prime mortgages are loans which have been lent out by financial instituition to househoulds or firms with poor credit ratings. This means risky loans were being given out. The reason for this was because of the great return (high profits) financial institutions would gain from this as the risky loans were lent out with very high interest rates.
How did organisational culture contribute to the global financial crisis
In the banking sector especially up to the lead up to the financial crisis the orginisational culture was risk taking and due to the little regulation banks were free to take risks knowing the costs may be bared on third parties. Due to seeking great bonuses and the high financial gains especially in investment banking, many risks would be taken.
