Relationship between Financial Deregulation and Financial Crisis - Assignment Example

The ideal situation never happens in reality, and people often make choices on the basis of incomplete information. Financial regulation plays the role of ensuring full disclosure and honest practices, and that other market inconsistency is addressed. Unfortunately, when deregulation takes place without the requisite “safety nets” (provisions to protect the public) in place, huge financial institutions are able to mislead the general public, that other market inconsistency (such as the assumption of too much risk) inevitably leads to a financial crisis.

The academic literature is replete with the discussion that supports either side of the proposition that financial deregulation gives eventual rise to financial crises. In 1999, Giron and Correa examined this relationship on the basis of the volatility of financial markets against the bathe backdrop of globalization in the past 25 years. Observing similarities between the then-ongoing contagion due to the Mexican and Asian financial crisis, and the financial crisis of 1929 that eventually led to the Great Depression, the authors state that crisis is a repercussion of a policy of deregulation and liberalization that preceded it (the crisis) by as much as two decades.

The resultant changes in production structures and international trade have caused the pressures which eventually gave way to economic turmoil, thus underscoring the limits to which deregulation may be actively pursued. Garron and Correa enumerate the occasions that banking crises arise, as (1) the active management of balances encounters mismatch problems; (2) when credit is concentrated in certain companies or sectors, such as oil or real estate.  ; (3) when real interest rates are high during periods of lower economic growth; (4) when leverage levels are high as a result of rapid privatization or takeovers; or (5) when these conditions are combined.  In their discourse, it is interesting to note that the paper, among other things, made observations that mirror the current (2007-2010) financial crisis, only their observations were made one decade earlier.