The Financial Crisis: Causes, Deregulation, and Big Government - Essay Example

The Financial Crisis: Causes, Deregulation, and Big Government Dear Mr. Headroom, The particular article focuses on the examination and the evaluation of the causes of current financial crisis; after presenting the various aspects of the financial crisis the author concludes that the crisis has been resulted because of the involvement of the government in the markets – a particular reference is made to the Community Reinvestment Act which is characterized as a major failure in terms of its effects on the country’s economy. At a next level, it is made clear that Democrats have a major responsibility in the development of the crisis; it is explained that Democrats insisted on the application of the above plan. Despite the trends in the global community to apply strict regulation on the markets and to increase the government intervention in all investment activities, the author notes that there is no need for such initiatives – these measures could lead to the opposite results. In accordance with the author, traditional methods of investment should be preferred (p.16) while the markets should be left free from the continuous and the extensive governmental control. The reasons that the author decided to develop the specific paper seems to be the fact that up to now the government of USA has not provided adequate explanations regarding the causes of the crisis. In general terms, the crisis has been related with specific financial products – derivatives – and particular firms – mainly Freddie Mac and Fannie Mae (p. 1) that were among the first firms to state their inability to respond to their responsibilities towards their creditors. These two organizations have been considered to have major responsibility for the development of the crisis; however, in practice it has been proved that the financial crisis would had appeared even if these two firms would powerful – in terms of their financial status. The main reasons of the crisis have been identified – in accordance with the author – in the practices followed regarding the rewarding of the financial institutions for the number of loans provided to the public. More specifically, it is noted that in the past ‘lenders were rewarded not for the quality of the loans nor whether the borrowers could ever be expected to repay them, but were instead rewarded for the simple quantity of loans that were made, packaged, and sold to the investors’ (p. 5). In this context, the author feels that there is the need to identify and evaluate the actual causes of the crisis – also to identify any responsibility of the government and the political parties in USA towards the specific outcome. The author states (p. 15) that Democrats had a major role in the country’s financial crisis – that led gradually all markets worldwide to severe turbulences. The pressure made on the Bush government by Democrats regarding the promotion and the support of the Community Reinvestment plan has been proved to be the among the main causes of the current financial crisis; the involvement of the markets in the financial support of the Communities without the necessary guarantees – as it was proved later the funds offered within the context of this plan were not appropriately protected – led to the gradual deterioration of the market’s status. Through the article, it is clear that there are words and phrases that can be characterized as ambiguous. For example, the word ‘foreclosures’ mentioned in the second page of the article is not clearly explained; two different approaches are used in order to explain the relationship between the ‘foreclosures’ and the crisis. It is not clear whether the ‘foreclosures’ led to the crisis or they were just parts of the crisis – as it was developed through the months across all the markets worldwide. Moreover, these ‘foreclosures’ are not related with the international markets; current crisis is not limited in the USA market – the specific market has adversely affected the markets worldwide but the latter had also to have weaknesses in order to be influenced at such a level by the crisis appeared in the USA market. On the other hand, the word ‘mismanagement’ (p. 8) is used to describe the causes for the financial collapse of Freddie Mac and Fannie Mae; however, it is not made clear whether the mismanagement refers to the internal control of the organizations – i.e. to their leaders – or the governmental authorities that had the supervision of the specific institutions. In other words, it is not explained whether the mismanagement reflects the failure of the governmental control over these two organizations or it is used to show the inability of the firms’ leaders to identify and handle the crisis – in fact, the mismanagement – if being related with the organizational leaders’ decisions – has led to the collapse of the firm through the adaptation of policies that there were too risky while there was no sign of recovery. Furthermore, mismanagement could also refer to the failure of the organizational leaders to notify the state on time regarding the threat of the collapse. When the USA government involved in the management of these two firms – in September 2008, this was actually a last-minute solution with no particular effect on these organizations’ customers – also for the firms’ creditors the handling of the crisis was not the appropriate; no guarantee was provided for the capital lost or the investments of individuals/ firms on the above organizations. Throughout the article, there are certain priorities that are highlighted. The need for transparency and the need for control on the activities of financial institutions; other organizations that have an important role in the development of the financial transactions and the investment activities worldwide should be also closely monitored. The involvement of the state should not be direct or intensive; markets should be left to operate without the continuous involvement of governments, a practice that has been proved to be related with current financial crisis (p. 15, 16). However, the above needs can lead to another problem; the government has to support the Community but also the individual. The government support to all the activities and projects of Communities has to be financial – at a first level – but also regulatory – presenting and monitoring the rules necessary for the growth of the Communities and the achievement of their targets. But in the article under examination it is suggested that the state should not be involved in the markets – in favour of the communities. In fact, the Communities Reinvestment plan has been considered to be a major reason for the development of the financial crisis – the above plan was not appropriately supported by the state and the organizations involved in its management were not able to respond to its needs. In this way, the responsibility of the state to intervene in the markets for the interests of the citizens comes to opposition with the interests of the financial markets – which are best served through their independency from the state. At this point, the reasoning used by the author regarding the appearance and the development of the crisis can be characterized as being in opposition with the public good. Of course, institutional activities should be protected by the state, but the interests of the public should be a priority. For this reason, by relating the intervention of Democrats in favour of the Communities with the financial crisis, the discussion becomes irrelevant with the economy; the political aspects of the crisis are rather presented – without adequately justified. For example, there is no alternative scheme proposed regarding the management of the crisis - neither the support of the communities. The latter had to be supported financially because otherwise the balance in the social life would be adversely affected; the methods chosen for the state’s intervention in this case could be differentiated but there is no alternative scheme of action provided. The presentation of the financial products (p. 3 and onwards) that have been involved with the crisis is analytical – as possible – helping the reader to understand the hierarchy of events that led to the appearance and the expansion of the crisis. On the other hand, the descriptions provided can be characterized as too technical – referring to the financial aspects of the crisis – i.e. to the changes in the financial indices, the interests and the rest of financial indicators worldwide; however, the above data cannot be considered as bearing the whole responsibility for the crisis – neither they were the only indicators of the crisis. In fact, the crisis became obvious to the people through the so – called ‘real economy’, i.e. the monthly income and the monthly expenses of individuals. Most important, the crisis affected the employment sector – to which no particular reference is made in the article under discussion. The most severe consequence of the crisis has been the radical reduction in the number of employees in all organizations worldwide – both of the private and the public sector. The financial indices are important to show the level of the crisis and the potential changes in the economy’s status; however, these indices are not directly related with people’s daily life – as it is their job. This is another point that can be considered as showing a negative perception of the author towards the financially weak parts of the population. In fact, it the 4th page of the article it is mentioned that ‘so to try to figure out what caused the crisis we must evaluate what caused traditional fiscally conservative mortgage requirements to be thrown out the window and loans extended to applicants that would have traditionally been turned down due to a lack of income or lack of creditworthiness’ (p. 4). However, there is no reference made to the compensation provided to the managers of financial institutions worldwide. Even today that the crisis is still under development, the compensation of the managers that work at the high level of organizational hierarchy – referring especially to the financial institutions – is extremely high, a problem that has not been resolved despite the direct intervention of the state. On the other hand, the involvement of the government in the crisis – after its appearance – is not characterized as appropriately planned. It is noted that ‘Bear Stearns, Lehman Brothers, AIG, Freddie Mac, Fannie Mae--all institutions that have been rescued by the government or allowed to go bankrupt this year--were all exposed to losses due to credit default swaps and other related financial derivatives’ (p. 7). Again, it is not made clear whether the government should follow an alternative plan of action. By avoiding being involved in the financial support of these organizations the government would be accused for not offering the necessary support for the recovery of the economy. In other words, it is not explained that the situation – as it was developed – led the USA government to inevitable actions. By focusing on the responsibility of individuals – who were not able to repay their loans the crisis began – the author makes a rather personal and political critique on current financial crisis. The justification being used by the author for this approach – extensive presentation of financial products, its structure and explanation of their dependency on the loan repayment – is not adequate for supporting his arguments. In accordance with the article, the US entered the crisis because of the following two causes: the bad management of specific investment products and the interventions – suggestions of Democrats. So, the managers of the financial institutions and the leaders of Democrats have the responsibility for the appearance and the expansion of the crisis. After reviewing the article I would suggest that the article is worthy of being reprinted in the magazine. Despite the fact that the arguments used by the author are sometimes too – political – in terms of the relationship identified between the crisis and the political decisions, there are many points that help to understand the actual causes of the crisis. Indeed, the failure in the management of a series of financial products – as explained in the article – can be characterized as the main cause of the crisis. Political decisions have also played a major role – even not decisive in accordance with my opinion. On the other hand, there could be a problem: the publication of the article could cause the reactions of readers because of the accusation against Democrats – regarding their role in the crisis. We should have in mind though that the article is a piece of work reflecting the personal views of the author. In this context, it would be up to your decision to take a relevant risk – if any – by publishing the article. Sincerely, Works Cited The Financial Crisis: Causes, Deregulation, and Big Government [An article written by an anonymous blogger. See http://www.letxa.com/articles/1.] September 29th, 2008, http://www.letxa.com/articles/25 Read More