The Financial Sector and the Future of Capitalism

Richard Pomfret

No 2009-05, School of Economics and Public Policy Working Papers from University of Adelaide, School of Economics and Public Policy

Abstract: Financial sector innovation and development has been an integral part of the rise of capitalism over the last half millennium. The innovations of the last three decades of the twentieth century were a continuation of the trend; they contributed to an era of global prosperity, but also increased the probability of bank failures as bankers and policymakers inexperienced in the new instruments made mistaken decisions. The likelihood of crises was increased by public policies which increased moral hazard. Governments regulate the financial sector due to asymmetric information between depositors and deposit-taking institutions; restricting entry or the lending activity of financial institutions is inefficient, so the weight is now placed on deposit insurance with moral hazard consequences. The policy challenge is to reduce moral hazard without repressing the financial sector and creating adverse selection in lending practices. Since the mid-1980s cheap money policies have exacerbated moral hazard associated with inadequate financial sector regulation by encouraging highly leveraged investments. The post-2007 financial crisis was one of many crises with idiosyncratic catalysts but with common underlying causes: cheap money available to participants in the integrated but imperfectly regulated global financial market eventually led to loan defaults and bank failures. This is not the end of capitalism, but a reminder of the difficult balancing acts involved in policing the financial sector which is at the heart of capitalist economies.

Keywords: financial development; Moral hazard (search for similar items in EconPapers)
JEL-codes: F43 G0 G28 O16 (search for similar items in EconPapers)
Pages: 27 pages
Date: 2009
New Economics Papers: this item is included in nep-ban, nep-cta and nep-his
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Citations: View citations in EconPapers (1)

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https://media.adelaide.edu.au/economics/papers/doc/wp2009-05.pdf First version, 2009 (application/pdf)

Related works:
Journal Article: The financial sector and the future of capitalism (2010)
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Persistent link: https://EconPapers.repec.org/RePEc:adl:wpaper:2009-05

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