How Liberals, Realists, and Structuralists Evaluate the Current Global Financial Crisis - Example

Discuss how Liberals, Realists and Structuralists evaluate the current Global Financial Crisis (GFC) in terms of its causes and consequences. How would each respond from a policy perspective? Table of contents Table of contents 2 3 Introduction 4 In the year 2007, financial markets were challenged by the initial events of what later on developed to be a serious financial crisis. The economic crisis started in the United States and affected many of the Organisation for Economic Co-operation Development (OECD) countries. It was after the crisis became a worldwide economic downturn that the emergent and developing market economies were affected (Dullien et al., 2010, 2). Various financial institutions were struck by an upsurge in mortgage loan defaults and this was quite evident in the subprime segment (Argandona 2012, 1). Given that these loans were shifted to other stockholders or used to guarantee other properties, this created a significant doubt on the real value of the assets and the degree of risk that was involved (Boorman 2009, 127). This, together with a lack of transparency, also added to the already existing suspicion about the creditworthiness of the financial institutions. The fall of Lehman Brothers forced players in the financial market to re-evaluate risks (Allen and Carletti 2009, 3; McKibbin and Stoeckel 2009, 3). The worldwide financial network was rapidly hit by a serious crisis that was initially a liquidity problem as financiers stopped loaning nearly all entities, and then later became a solvency problem. 4 Introduction In the year 2007, financial markets were challenged by the initial events of what later on developed to be a serious financial crisis. The economic crisis started in the United States and affected many of the Organisation for Economic Co-operation Development (OECD) countries. It was after the crisis became a worldwide economic downturn that the emergent and developing market economies were affected (Dullien et al., 2010, 2). Various financial institutions were struck by an upsurge in mortgage loan defaults and this was quite evident in the subprime segment (Argandona 2012, 1). Given that these loans were shifted to other stockholders or used to guarantee other properties, this created a significant doubt on the real value of the assets and the degree of risk that was involved (Boorman 2009, 127). This, together with a lack of transparency, also added to the already existing suspicion about the creditworthiness of the financial institutions. The fall of Lehman Brothers forced players in the financial market to re-evaluate risks (Allen and Carletti 2009, 3; McKibbin and Stoeckel 2009, 3). The worldwide financial network was rapidly hit by a serious crisis that was initially a liquidity problem as financiers stopped loaning nearly all entities, and then later became a solvency problem. The crisis was further prompted by the sovereign debts which were triggered by the great responsibility the government underwent through its incentive measures and also through offering funding to distressed banks in a situation of high private sector outward duties. Defaulting payments by some governments generated a new area of mistrust, elevation of the risk premium thus compelling the governments to implement hard fiscal alliance plans that further intensified the collapses and challenges facing their banks (Argandona 2012, 2; Jickling 2010, 9). This economic challenge has created debates and arguments on the roots of the problem and implications it has had on the international economy. This paper entails an evaluation of the causes and consequences of the global financial crisis from different perspectives, including that of the realists, liberals and structuralists, and their responses from their own views. Realists’ evaluation of the GFC Realists believe in a constant human nature, which cannot be altered, i.e., humans are controlled by facts and real issues, but not feelings (Ferrer, Pescadero and Tumulak 2009, 7). From the perspective of realists, power determines the level of interactions internationally. The main idea behind a realist’s mind is the concept of “power, struggle, self-help systems, self- interest, and balance of power” (Ferrer et al. 2009, 7). A realist believes that a country only focuses on its national interests for the purpose of security or power. To realists, a crisis emerges from the fact that a state is greater in number, quantity, or importance (Ferrer et al. 2009, 20). Realists argue that the global financial crisis is the result of the non-intervention of the government and the lack of regulation of economic policies. The overall consequence is the accumulation of debts and mortgage, which expand to a crisis (Ferrer et al. 2009, 20). For example, the 2008-2009 global economic crisis in the United States was based on the fact that consumers purchased goods via credit, which led to debts (Ferrer et al. 2009, 20). The consequence of the crisis from a realist perspective is the dependence of other states, especially the developing countries on powerful states (Ferrer et al. 2009, 21) like the US. The US, for instance, can be suggested to have ensured that states and global economies are highly reliable on it (Ferrer et al. 2009, 21). Also, from a realist’s point of view, the global financial crisis, created to have an advantage of power, may result in the fall or collapse of the super states. For instance, other states (e.g. China) have developed power and are threatening the power position of the US (Ferrer et al. 2009, 21). The policy response from a realist perspective is the change of economic policies from the neo-liberal system whereby the government has minimal intervention in the economy (Ferrer et al. 2009, 21). Although it requires time to shift from the free market situation, there should be development of a policy that slowly and regulates the economy, hence the ease of controlling debts (Ferrer et al. 2009, 21). Moreover, there should be advocacy for minimal dependence of states on other states (Ferrer et al. 2009, 21). As a result, upon the outbreak of a crisis within one state, there are minimal chances of the spread or effects to other states (Ferrer et al. 2009, 21). Realism indicates that the best way to counteract the global financial crisis is to implement a regulatory policy that controls and governs the financial systems (Ferrer et al. 2009, 23). Such policies will help in the recovery of states from the stages of global financial crisis. Liberalists’ evaluation of the GFC Liberals are guided by the principle of individual freedom, which controls political and economic governance (Lal 2010, 5). As an economic policy, it favours the free market ideology, limits the control of the government, and allows privatization. In the financial market, liberals advocate for no government intervention, which causes the deregulation of markets as well as financial institutions (Lal 2010, 5). In simple terms, liberals believe in the non-interference with individual freedom, which is the foundation of a stable society. Liberals argue that the global financial crisis is rooted in the imbalances within the international business markets. They think that financial institutions do not exercise the freedom of response to the rapid rise in credit. That is, banks fail to monitor the financial cycle, which in one way or another contributes to unattended credit expansion. Another cause of the GFC as per the liberals is the underestimation of financial system risks (Norgren 2010, 22). The argument here is that securitisation markets, based on the idea that it is difficult to individually manage system risk, creates complex networks of market participants and financial institutions. Securitisation aims at shifting the risk from banks to other financial systems (Norgren 2010, 22). This complexity underestimates the implications of the risk associated with such innovations (Norgren 2010, 22). Another cause of the GFC, according to liberals, is a lack of international harmonisation and coordination (Norgren 2010, 23) and is adapted from a governmental position. Each country has the right to its financial freedom, which makes them not to keep trend as well as desire to expand to international banking. The lack of harmony or coordination leads to unstable concerns on financial issues and a coordinated decision on the global export and import markets (Norgren 2010, 23. Liberals also argue that the global financial crisis is caused by the interference of the government to be guarantors of the financial systems (Norgren 2010, 29). Upon the intervention of the government to guarantee the funding of a financial system, for instance a bank, there is reduction in the costs of debts. This is attributed to the fact that it is difficult to distinguish between stable and unstable banks and as a result, banks develop incentives and urges to expand for a competitive advantage. With the existing notion that the government will fund or stabilise the institutions, the banks reach a destabilised state with uncertain market trends. In terms of the consequences, liberals regard the global financial crisis as a cause of unemployment (Terazi and Senel n.d, 189). The argument is that the crisis leads to the uneven distribution of resources and downturns in business (Terazi and Senel n.d, 189). This leads to the reduction of employees in companies, which increases the social cost as well as the poverty rate (Terazi and Senel n.d, 189). Another consequence is a dysfunctional market (Edey 2008, 188). On one end, the uncertain conditions brought about by the crisis lead to the collapsing of the investors and consumers’ confidence (Edey 2009, 188). There is a cut on spending, which affects the market. Liberals demand the freedom of individuals in handling businesses. This freedom encourages privatisation and improves their policy responses to the economic crisis which is necessary for repairing the damaged financial market (Beder, 2009). Liberalism has advocated from the development of policies that allow the provision of funds to growing and emerging countries from multilateral organisations such as the IMF (Edey 2008, 193). Moreover, policies should govern the direct provision of capital to the financial institutions (Edey 2008, 193). Also, liberals urge for the removal of bad assets and the installation of securities that support the overall credit market (Edey 2008, 193). Finally, liberals advocate the maintenance of a free market with deregulatory policies, but with correction of mistakes (flaws) within the systems (Ferrer et al. 2009, 23). Structuralism and the Global Financial Crisis Structuralism is a conception and principle that states that structures have the fundamental importance on activities and actions (Cimoli and Porcile 2009, 2). In regard to the structuralist theory, structures have authenticity, control and authority. Structures are reflexively created and recreated by people time and time again but not by specific individuals. Structuralists show the significance of building foundations proficient for organising and expediting the collaboration in international trade (Cimoli and Porcile 2009, 2). Most structuralists do consider that the present global capitalist system is biased and unfair and can therefore be altered into something that allocates incentives equally. Structuralists’ philosophy rotates around supremacy relations between the centre and the fringe, the disparagement to reasonable advantage and the importance of the exterior constraint, the double appeal of economic expansion at different stages, a vision of growth as structural change, the necessity for a satisfactory regional and global inclusion, the requirement of a change directed by government particularly infrastructure, and industrious development (Cimoli and Porcile 2009, 5). Based on this, the GFC not only indicates the flaws of free market capitalism but also the political dysfunction of the economic topmost group getting bailouts while regular taxpayers struggle. According to Crotty (2009, 564), although complications in the United States subprime mortgage market activated the contemporary crisis, its main cause on the economy is found in the defective organizations and practices of the modern financial system. The organization responsible is the NFA (New Financial Regime), which is the incorporation of contemporary financial markets with the period’s administration guidelines. According to structuralists, the key structural flaws of the NFA are as follows. First is that the NFA is constructed on an extremely feeble hypothetical foundation. It is founded on light guidelines of commercial banks, and even a further not so seriously established guidelines of investment banks. Its support for the relaxed regulation is strengthened by the fundamental assertion of neoclassical financial economics, which states that investment markets price safeties should be appropriate with regards to the anticipated risk and return (Crotty 2009, 564). The traders in financial securities made prime resolutions that brought about the fact that risk could only be held by those capable of handling it. Studies related to the NFA reports that comparatively free financial markets reduce the potentials of financial emergencies and the necessity for administration bailouts. According to Crotty (2009, 564), the NFA is hypothetically built on clearly impractical postulation and has no substantial empirical support. The NFA has an extensive and obstinate motivation that creates unwarranted risk, aggravates booms and creates crises. These incentives encourage main employees in nearly all financial organisations which include the commercial and investment banks, insurance companies, joint and retirement pension funds, to take unnecessary risks as soon as the financial markets are resilient (Crotty 2009, 565). An example of these incentives can be seen in insurance giant AIG’s financial products unit that risked on CDSs (credit default swaps). This led to the unit losing $40.5 billion in 2008 (Crotty 2009, 565). Therefore, for the rewriting of the guidelines of financial markets to be effective, the fixed incentives that infiltrate the system should be dramatically reduced. The holding of assets off balance sheets that was permitted by the financial controllers with no capital required to support them is also another factor. Initially, banks were permitted to hold unsafe securities out of their balance sheets in special investment vehicles (SIVs) with no principal funds necessary to support them. The control systems therefore encouraged banks to transfer their assets off balance sheets as much as possible. This, plus the extreme dependence on multifaceted financial products in a strongly integrated international financial system brought about networks of corruption that increased the risk in the system (Crotty 2009, 572). The GFC, which was the first since World War II, led to a reduction in the world’s GDP (gross domestic product) in 2009 by 0.6%. Although the reduction of the GDP varied among the growing and the emerging markets, it meant that the affected states were to take some time to improve. A decrease in GDP in the developing countries of the same scale as that of the developed nations can have harsh social consequences to the developing nations (Dullien et al., 2010, 3). Most OECD states resorted to countercyclical financial policies that had never been used before and also gave considerable liberation packages to banks. From a structuralist’s perspective, it is important to view international trade, global structural change, and development as co-evolving progressions determined by the divergent rates of modernization and dispersion of technology. In addition to that, economic policies for enhancing development and its regards to a prolific global financial structure ought to be supplemented by a corresponding rise in effective investment (Cimoli and Porcile 2009, 3). Conclusion The global financial crisis, which started in 2007 and later became a global challenge in 2008, greatly signified a turning point in capitalism since. Liberals advocate for the preservation of peace and minimization of conflicts. Overall, they urge the maintenance of free market and the deregulation of policies governing financial systems. As per the liberals, the global financial crisis is the result of global imbalances, interference of the government to guarantee funding of banks and the de-harmonisation and lack of coordination among states. The consequences are high unemployment rates and dysfunctional markets. However, as solution to the global financial crisis, they argue for the adjustment and correction of the flaws within these systems. On the other hand, realists believe that the cause of the global financial crisis is the lack of regulation of the financial systems as well as the attempt by super states to maintain the power over other states. Realists indicate that the solution is the slow and sure change or alteration of policies to allow the regulation of financial markets, which will control debts as well as help in the recovery from the crisis. Structuralists show the significance of introducing bases capable for organising and furthering partnerships in international trade. They argue that the GFC not only shows the defects of the free market capitalism. They also argue that it is important to understand that international trade, global organisational change, and growth are evolving hand in hand and are determined by the differing rates of modernisation and dispersion of knowledge. References Allen, Franklin, and Elena Carletti. 2009. “An overview of the Crisis: Causes, Consequences and Solutions”. April 22. http://apps.eui.eu/Personal/Carletti/IRF-Overview-Allen-Carletti-26Nov09-final.pdf Argandona, A. 2012. “Three Ethical Dimension of the Financial Crisis”. April 22. http://www.iese.edu/research/pdfs/di-0944-e.pdf Beder, S. 2009. “Neoliberalism and the global financial crisis”. Social Alternatives, 8(1): 17-21. Boorman, J. 2009. “The Current Financial Crisis: It’s Origins, Its Impact, and the Needed Policy Response”. Global Journal of Emerging Market Economies, 1(2): 127-135. Cimoli, Mario and Gabriel, Porcile. 2009. “International trade policy and global growth a structuralist perspective”. Economic Growth and Development in LatinAmerican Countries, April 22. http://www.cepal.org/noticias/paginas/3/35143/cimoli_porcile(global_growth).pdf Crotty, C. 2009. “Structural causes of the global financial crisis: a critical assessment of the ‘new financial architecture”. Cambridge Journal of Economics, 33: 563–580. Dullien, Sebastian, Detlef Kotte,Alejandro Márquez and Jan Priewe. 2010. “The Financial and Economic Crisis of 2008-2009 and Developing Countries”. United Nations, New York and Geneva. Edey, M. 2009. “The Global Financial Crisis and Its Effects”. Economic Paper, 28(3): 186-195. Ferrer, Euvic M. Cris, Virgil M. Pescadero, Karla Marie and T. Tumulak. 2009. “Neo-Liberalist vs. Realist: The Global Financial Crisis Question an Analysis of its Causes, Effects and Possible Solutions”. April 23. https://www.scribd.com/doc/21795446/Neo-Liberalist-vs-Realist-The-GLobal-Financial-Crisis-Question Jickling, M. 2010. “Causes of the Financial Crisis” Congressional Research Service. April 24. http://www.au.af.mil/au/awc/awcgate/crs/r40173.pdf Lal, D. 2010. “After the fall: Aclassical liberal perspective on the great crash of 2008”. April 23. https://www.econ.ucla.edu/lal/after%20the%20fall.pdf McKibbin, Warwick J and Andrew Stoeckel. 2009. “The Global Financial Crisis: Causes and Consequences”. April 21. http://www.lowyinstitute.org/files/pubfiles/McKibbin_and_Stoeckel,_The_global_financial_crisis.pdf Terazi, Ebru and Seçil Şenel. n.d. “The Effects of the Global Financial Crisis on the Central and Eastern European Union Countries”. International Journal of Business and Social Science, 2(17): 186-192. Read More