Policy Memo: Financial Crisis and Market Failures
Introduction: The Financial System The purpose of this memo is to analyse the 2007-2009 Global Financial Crisis from the perspective of market failures. It starts with a general overview of the financial system and its characteristics. The financial system is vital for the economy and has particular characteristics that distinguish it from other markets. It acts like the cardiovascular system in a economy, allocating excess resources from households to more productive ends by providing credit for businesses and people. Interestingly a financial system crash could collapse the entire economy and even provoke political instability whereas other markets couldn't cause such drastic effects. As such, financial markets don’t behave like goods markets. Markets of normal goods, like bread or wheat, are generally characterized by a self-correcting behavior. A sudden increase in price will cause a demand contraction, resulting in an oversupply of the product, forcing the correctio