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Excessive Liquidity, Financial Innovation and Financial Cirsis

Author: LianYuLin
Tutor: ShengBin
School: Nankai University
Course: World economy
Keywords: financial crisis excessive liquidity financial innovation Re-balance financial supervision
CLC: F831.7
Type: PhD thesis
Year: 2012
Downloads: 48
Quote: 0
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Abstract


In the second half of2007, the outbreak of the subprime mortgage crisis in theU.S.A. caused tremendous global financial crisis. This subprime crisis inflicted on thefinancial system and the real economy all over the world. This paper purposes toanalysis financial crisis based on macro-as well as microeconomic perspectivesrespectively, using economic basic theories. Moreover, in order to verify my analysis,this study is intended to utilize econometrics, in addition to real case studies at theroots of crisis such as AIG, Lehman Brothers.First of all, the causes of subprime crises are discussed, and how those causestransmit from US to the world becoming systematic crisis. Furthermore, after studythe popular macroeconomic theories, the subprime crisis can be explained by the“financial instability hypothesis”(Hyman P. Minsky).From the macroeconomic point of view, the excessive liquidity has spreadthroughout the whole world in the last decade and brought the pressures of inflation,as result of the increase in price of assets and commodity. In addition, the hot moneyincreased the size of private equity funds and hedge funds, as well as causedinternational capital flows more frequently between the countries. Under thecircumstances of globalization and integration, excessive liquidity can be apply tointernational investments, and more often than not, lead to profits earning. Therefore,during the period of this study, a lot of international capital flows into America.As US dollar plays the key role in international monetary system, despite ofAmerica remains a huge current-account deficit resulting in disequilibrium to globaleconomies. Developed countries can easily finance their current-account deficitsunder the condition of advances of global financial market. And this consequencesignificantly leads to global disequilibrium; nevertheless, this disequilibrium resultsfrom international capital flows.As the result, this paper adopts the regression analysis of moving least squaremethod. Furthermore, the effect of regression coefficients is compared in order toconfirm the relationship between the excessive liquidity and the financial crisis. Because of global disequilibrium, emerging economy keeps accumulating lots ofdollar-denominated assets on the account of precautionary motivations. Since USdollar is not only the sovereign currency but also it is the leading reserve currency.However, the excessive accumulation of US dollar reserve assets cause globalfinancial markets to become increasingly unstable, in addition, leads to a fault lines ofinternational monetary system.This paper also examines the insufficiency of Bretton Woods’s system, and thereformation of international organization such as IMF, G20etc. Soon after thesubprime crisis, international organizations propose some reformations ofinternational monetary system including the limitations on international capitalmovement, reengineering the international monetary system, international policiescoordination, and regional economic and financial cooperation.On the other hand, from the microeconomic point of view, with the remarkableadvances of financial innovation, America has become a largest economic power anda global leader in financial industry. Financial innovation such as asset securitization,mark-to-market accounting, risk-based capital instruments and liability management,and leverage plays leading roles to the eruption of the subprime mortgage crisis andalso its spreading process.The subprime mortgage crisis may be regarded as a kind of revenge of financialinnovation. The crisis is also substantially correlated with the negligence of U.S.Afinancial supervision system. Almost every linkage gets problems in the course ofsubprime mortgage crisis. And these problems are caused by the defective financialsupervision system. The Dodd-Frank Wall Street Reform and Consumer ProtectionAct implemented financial regulatory reform on July21,2010in the United Statesand the Act would require the comprehensive introspection on financial crisis forsupervisors, the public, law experts, and academics all together; moreover, the Actcan be regarded as a milestone for financial supervision history of America. And theAct also stands for a new standard to global financial supervision reform, since itends de-regularization on financial system in the United States.Finally, in view of international financial regulations, IMF, BIS and G20, thepowerful international organizations focus on the roots of financial crisis, the rebuild of supervision concepts and the reform of financial system etc. And they wouldprovide some constructive suggestions and guide lines to the global financialdisciplines.

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