- Elgar original reference
Edited by Kern Alexander and Rahul Dhumale
Chapter 20: Summing Up and the Challenges Ahead
Kern Alexander INTRODUCTION This book examines some of the main issues that are driving research and public policy in international financial regulation. Part I examines the origins of the 2007 credit crisis and how financial innovation, through securitisation and credit derivatives, had created interconnected and opaque wholesale capital markets in which banks and other financial firms had taken on high leverage to invest in securitised investments and synthetic credit instruments and, when liquidity suddenly evaporated, the system was put at great risk. It was argued that the similarity in bank risk management models that was facilitated by Basel II had led most banks to price credit and market risks in very similar ways which did not take into account the correlations between asset prices and investor behaviour. This exposed banks to liquidity risks in the wholesale funding markets which were not addressed adequately by prudential regulation and supervision. As a result, an important component of the international policy response to the global financial crisis has been the strengthening of the macro-prudential orientation of financial supervision. Macro-prudential regulation involves a greater focus on the financial system as a whole and its linkages to the macro-economy (FSA 2009, De Larosière, 2009, and FSF 2009). The origins of the term ‘macro-prudential’ have taken on great significance in the wake of the financial crisis and have been elaborated in the development of EU financial policy. An important aspect of macro-prudential oversight involves monitoring and assessing systemic risks – that is, the risks created by...
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