A)The financial crisis of 2007-2010 was it simply the result of lax Essay

A)The financial crisis of 2007-2010 was it simply the result of lax regulation, or were a range of factors at play (50 marks) - Essay Example The first phase, as explained below, is Novel Offering. Finally, I will discuss the link between the crises and the factors such as Crises of Financialisation and contradiction. The crises will also be explained from an economic theory pint of view (Peretz and Schroedel 2009). Novel Offerings Novel offerings are sources of revenue used by banks and other financial institutions by trading in different financial products. For the last few decades, the context of deregulation has greatly contributed towards development of these financial products. For example, since 1970s, different regulations controlling the actions of financial institutions in the UK and USA have been loosening up. This includes Glass Steagall, which had been instituted to disjoin the people’s savings from the riskier operations of investment banks. The banks resulted in creation of shadow baking system, which allowed them to circumvent the rule that required them to balance the risk on their books with some l evel of capital. Securitisation, Boom and collapse of shadow banking The shadow banking system is believed to have traded the worst performing and the riskiest mortgages. These systems put extensive pressure upon the traditional institutions hence forcing them to soften their underwriting standards and start dealing with riskier loans. These banks were later criticised for underpinning the financial system, though they were not accountable to the same regulatory controls. What’s more, these banks were susceptible because of maturity mismatch, implying that they borrowed short-term loans from liquid markets and bought illiquid, long-term, but risky assets. The uncontrolled practices of such banks are the core of the 2007 financial crises – the situation could have been better if regulation was imposed on all activities related with banking. In the spring of 2007, the securitization markets were helped by shadow banking systems, leading to a more or less shut-down in the fall of 2008. What ensued was disappearance from market of more than a third of the private credit market (Thompson 2005). Figure 1 shows how securitization market came near shut-down during the crises. Figure 1: Decline of securitization market Securitisation is the process by which a certain assets’ cash-flows are separated from the balance sheet of the primary entity and transformed into marketable securities (Thompson 1995). The purpose of securitisation is to convert illiquid assets into marketable securities. It is used by insures as a form of risk management, which is achieved through transferring, commoditising and reallocating of different types of risks such as interest rate risk, credit risk, and pricing risk. Securitisation of the US subprime mortgage, according to Ingham (2008), fuelled the global crises during the summer of 2007 by increasing the extent of lending to subprime borrowers, which was happening at a very high default rate. Between 2004 and 2006, the market for subprime loans expanded significantly as shown in figure 2. As a result, the European and the US banks were writing off a massive amount of financial assets as the securitised mortgages became illiquid. The public money was used by many governments to bail out the financial institutions that were entangled into crises. Although it is usually a regulatory requirement to undertake credit rating on