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Market Failures and Regulatory Failures: Lessons from Past and Present Financial Crises

Author

Listed:
  • Acharya, Viral V.

    (Asian Development Bank Institute)

  • Cooley, Thomas

    (Asian Development Bank Institute)

  • Richardson, Matthew

    (Asian Development Bank Institute)

  • Walter, Ingo

    (Asian Development Bank Institute)

Abstract
The paper analyzes the financial crisis of 2007–2009 through the lens of market failures and regulatory failures and presents a case that there were four primary failures contributing to the crisis: excessive risk-taking in the financial sector due to mispriced government guarantees; regulatory focus on individual institution risk rather than systemic risk; opacity of positions in financial derivatives that produced externalities from individual firm failures; and runs on the unregulated banking sector that eventually threatened to bring down the entire financial sector. In emphasizing the role of regulatory failures, the paper provides a description of regulatory evolution in response to the panic of 1907 and the Great Depression, why the regulation put in place then was successful in addressing market failures, but how, over time, especially around the resolutions of Continental Illinois, Savings and Loans crisis and the Long-Term Capital Management, expectations of too-big-to-fail status got anchored. The paper proposes specific reforms to address the four market and regulatory failures we identify, and we conclude with some lessons for emerging markets.

Suggested Citation

  • Acharya, Viral V. & Cooley, Thomas & Richardson, Matthew & Walter, Ingo, 2011. "Market Failures and Regulatory Failures: Lessons from Past and Present Financial Crises," ADBI Working Papers 264, Asian Development Bank Institute.
    • Handle: RePEc:ris:adbiwp:0264
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    References listed on IDEAS

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    1. Perceptions of the neutral interest rate
      by Bruno Duarte in EUnomics on 2018-09-17 17:42:36

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    3. Jianxing Wei & Tong Xu, 2018. "A Model of Bank Credit Cycles," 2018 Meeting Papers 610, Society for Economic Dynamics.
    4. Assaf, A. George & Berger, Allen N. & Roman, Raluca A. & Tsionas, Mike G., 2019. "Does efficiency help banks survive and thrive during financial crises?," Journal of Banking & Finance, Elsevier, vol. 106(C), pages 445-470.
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    7. Trompatzi, Georgia & Metaxas, Theodore, 2013. "From the Bank Panic of 1907 to the Great Depression of 1929 and the Savings and Loan Crisis of the 1980s: Lessons for the future," MPRA Paper 48272, University Library of Munich, Germany.
    8. Dean Uèkar & Danijel Petroviæ, 2021. "Efficiency of banks in Croatia," Zbornik radova Ekonomskog fakulteta u Rijeci/Proceedings of Rijeka Faculty of Economics, University of Rijeka, Faculty of Economics and Business, vol. 39(2), pages 349-379.
    9. Allen N. Berger & Martien Lamers & Raluca A. Roman & Koen Schoors, 2020. "Unexpected Effects of Bank Bailouts:Depositors Need Not Apply and Need Not Run," Working Papers of Faculty of Economics and Business Administration, Ghent University, Belgium 20/1005, Ghent University, Faculty of Economics and Business Administration.
    10. Fariborz Moshirian, 2014. "Implications of global financial and regulatory policies on systemic risk in Asia," Chapters, in: Iwan J. Azis & Hyun S. Shin (ed.), Global Shock, Risks, and Asian Financial Reform, chapter 8, pages 284-332, Edward Elgar Publishing.
    11. Cherry, Barbara A., 2011. "Radical experimentation under deregulatory broadband policies: The rise of shadow common carriers," 8th ITS Asia-Pacific Regional Conference, Taipei 2011: Convergence in the Digital Age 52340, International Telecommunications Society (ITS).
    12. Wei, Jianxing & Xu, Tong, 2024. "Banking supervision with loopholes," European Economic Review, Elsevier, vol. 161(C).
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    More about this item

    Keywords

    global financial crisis; LTCM; market failures; regulation; emerging markets;
    All these keywords.

    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G01 - Financial Economics - - General - - - Financial Crises
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage

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