The global financial crisis of 2007-2009 is considered the most impactful since the Great Depression, which began in 1929. Various factors are responsible for the crisis, including improper monetary policy, unrestrained use of financial instruments, and lack of transparency and adequate governance in numerous financial or banking firms. Regulators failed to maintain balance and protect consumers of the financial system.
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This was evident in their approach to top executives. Further, unethical fiscal practices that resulted in misinformed or exploited consumers and investors led to the collapse. The case-study examines principal theories and the reasoning behind market intervention for the purpose of consumer prevention in the post-crisis era.
Regulators are faced with the challenge of balancing consumer protection with business interests. A non-interventionist approach has no government involvement and promotes competition, the disclosure of information, caveat emptor, and private regulation mechanisms. It is founded on the belief of the belief in free-market efficacy.
Human beings are considered rational economic actors that maximize self-interest and utility, but it is assumed that there is a free flow of information to make adequate decisions. Also, behavior and psychology show that people can easily make irrational or erratic decisions based on a lack of self-control, cognitive biases, and heuristics that are detrimental to their welfare.
An interventionist approach advocates for heavy government regulatory involvement aimed at continuous monitoring of seller and supplier activities with the purpose of protecting consumer interests. This regulation includes bans and limits, including fiscal activity such as risk-sharing, the conduct of business, and product quality. The strict approach is founded in the study of economic behavior that disproves a rational choice theory and is based on the complex pandemonium of sociological, psychological, cultural, and environmental factors. Another justification for consumer protection is the lack of open access information that is fundamental to a proper free-market system.
Information may not be provided due to associated costs and limits to distribution. At times, information is purposefully concealed or misrepresented for deception purposes leading to fraud. Also, the lack of information about quality creates a “market for lemons,” which is relevant to not only goods but services. Information gives consumers the ability to evaluate products, and restricted access to accurate or complete data severely distorts the balance between consumer and supplier.
The concepts of morality are relevant as capitalism promotes self-interest and profit, which leads to improper conduct and violation of ethical norms. An interventionist approach is based on paternalism, which is essentially interference with a person’s liberty using the premise that it benefits the consumer’s welfare and interests. Once again, it is a response to the fact that humans are inertly self-destructive and irrational in their behaviors. However, paternalism can lead to the state gaining too much power through coercion. Libertarian paternalism was developed to face criticism and become less intrusive, operating through guiding influence toward welfare rather than coercion.
Before the crisis, the UK financial regulator, the FSA was responsible for consumer protection, promoting confidence and public understanding in the financial system. The numerous objectives of the regulatory entity made it difficult to efficiently prioritize, with certain goals and underlying legislation being ideologically conflicting. The central goal of consumer protection called for intervention while supporting policies of consumer responsibility and education implied the opposite approach.
Until the crisis, the financial service industry was regulated through mostly non-interventionist practices. Risk-based regulation is reactive to the regulatory body, not achieving its objectives. The principle-based regulation provided general guidelines on behavior. “Light touch” regulation attempts to steer away from direct influence or review of business models. Further, customer involvement in the regulatory process and the ideology of “treating customers fairly” leave businesses to their own regulation and encourage caveat emptor.
After the crisis, a radical change in the approach to financial regulation began in the UK. While it is understood that not everything can be prevented, a risk-and-outcomes-focused proactive philosophy was adopted. Intensive supervision was replaced by the detrimental “light touch” approach by enforcing inspections and focus on creating a responsible culture in the industry. The refocus on customer fairness is the final shift away from non-interventionist policies.
Eventually, the FSA is to be dissolved and replaced with the Bank of England, which will be responsible for financial stability with supervisory bodies created to monitor fiscal activity and prevent credit bubbles. A separate Consumer Protection and Markets Authority will be the agency focusing on consumer issues and firm behavior. This move will help to prioritize financial regulatory objectives and bridge macro and macro-prudential policy. Some criticism still exists, including the lack of an operational or enforcement mechanism in place to ensure the quality of regulatory measures. Also, the organization has not determined a clear philosophy on how it plans to approach fiscal policy.
Strengths and Weaknesses
The case study is comprehensive and informative and presents the material in a coherent organizational structure. The initial discussion of an interventionist or lack of theories thereof, as well as the logic behind each approach, gives the reader a solid background to make further conclusions about the context. Further, the specific regulatory functions of FSA in the UK are discussed before and after the crisis concerning the concepts outlined earlier.
In all sections of the paper, the author presents both advantages and disadvantages of the discussed topic, always adequately supporting each point. The case study is objective and inclusive, making the vital connections between theories and a real-life example, including alluding to future regulatory approaches and making a logical argument for an interventionist policy standpoint. A weakness of this study is the lack of concrete detail about policy.
There are no examples of irresponsible and unethical behavior practiced by numerous firms, which essentially led to the crisis and the need for consumer protection. The discussion is mostly theoretical and general, with no legislation or definitive actions by the government that were done in the context of the crisis. Also, the lack of any specific recommendations creates a sense that regulatory bodies are incapacitated to make an economically viable decision as there are sufficient criticisms presented of each viewpoint, especially towards the attempt to innovate the UK regulatory body.
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Importance for Society
The described crisis was an economic phenomenon that revealed the many flaws that occurred in the financial system, its supervision, and regulation. Additionally, it severely undermined consumer trust in both business and federal regulatory practices, which are having detrimental effects on the global economy a decade later. There is a clearly voiced expectation and necessity to effectively study the economic principles and behaviors by all involved agents so that conclusions can be made on how policy and regulation can be implemented going forward to avoid such devastating consequences. This case study focuses on the theoretical conventions to regulation practices, particularly focusing on consumer protection.
As the details about the cause of the 2007-2009 financial crisis emerged, there was a social outcry about the complete lack of ethical behavior in top financial institutions, which included misinforming consumers and investors. Perhaps, the fundamental reason for the collapse was the evaporation of trust, most of which was justified by the overwhelming avarice of certain entities. The solvency of many banks and financial firms began to fall, and if not for government intervention, the system would have failed.
To the regular consumers that are essentially the foundation of the free market economy, sudden financial losses while their behavior was responsible, was utterly unjustifiable. Both federal and private firm regulatory consumer protections failed and reaffirmed people’s worst fears. The crisis did not begin due to consumers being misinformed about the quality of products and services. Instead, it touched the quality of their loans and mortgages, a move that destroyed the lives of many families. Therefore, there is firm support for limits and regulation of the financial abuses and predatory practices that touched the common consumer.
The Great Depression, in its time, produced an influential theory by John Keyes, which sought to address the economic flaws of the period. Conclusively, there is hope that lessons can be learned from the 2007-2009 crisis, and changes can be made to the complexity of the modern global economy. At this time, most of the changes made on a legislative and regulatory level are reactive and superficial.
It is necessary to make core modifications to financial practices and policy, which will shift the rapidly growing inequality to provide the social benefits and consumer protection society desperately desires. There is a need to establish a balance to macroeconomic intervention and financial regulation that emphasizes corporate social responsibility and competent risk management by institutions.