What led to the U.S. banking crisis of 2007-2008 occur?Many accounts have chronicled the bad decisions and poor risk management at places like Lehmann Brothers, the now-vanished investment bank.
Two things have been identified , in tandem, that generate banking crises: One, a large amount of foreign investment surges into a country, and two, that country’s economy has a well-developed market in securities especially stocks, in a study by MIT.
Through history, lending institutions have often been prone to instability. Imagine a promising business needs capital. It could borrow funds from a bank. Or it could issue a stock offering, and raise the money from investors, as riskier firms generally do. If a lot of foreign investment enters a country, backing firms that issue stock offerings, bankers will want a piece of the action.
In a new book, “Banks on the Brink: Global Capital, Securities Markets, and the Political Roots of Financial Crises,” published by Cambridge University Press. In it, they emphasize that the historical development of markets creates conditions ripe for crisis it is not just a matter of a few rogue bankers engaging in excessive profit-hunting.
This book develops contrasting case studies of Canada and Germany. Canada is one of the few countries to remain blissfully free of banking crises something commentators usually ascribe to sensible regulation.
By contrast, German banks have been involved in many banking blowups in the last two decades. At one time, that would not have been the case. But Germany’s national-scale banks, feeling pressure from a thriving set of regional banks, tried to bolster profits through securities investment, leading to some notable problems.
Capital regulations, making sure banks are holding enough capital to absorb any losses they might incur. That seems to be the best approach to maintaining a stable banking system