The recent financial crisis of 2007-2009 (the crisis) has been dramatised as the worst crisis since the great de- pression in the 1930s. Prompt regulatory response was required in order to contain the spread of fear and stop the mistrust with the ultimate goal to restore the confidence into the financial institutions and markets as well as prevent the collapse of the real economy. Financial crises containment can be defined as the enhancement of “… soundness and stability of the banking …” which is essential to “…ensure legal certainty and to restore confidence in financial markets” Regulators have a whole set of tools to respond to crises, using an existing regime and or implementing a special resolution regime. Latter has a broad span reaching from capital injections to expropriation. Undoubtedly, the measures raise legal questions regarding their raison d’être and liability of those exercising the measures. Moreover, the measures have individual merits and demerits varying in respect of their costs and perspective of the market participants.
The purpose of this essay is to analyse these responses. Therefore, different measures will be identified and evaluated in light of the Economic and Financial Affairs Council’s common principles for action 5 and the Commission Communication of State Aid 6 which have been determined as representative guidelines for policy makers in drafting a response regime. It will be concluded that there is no clear cut answer to which are the most successful measures; nevertheless, there is empirical evidence of which are the most favoured responses by regulators. The measures will be in response to an acute crisis, ie the prevention and resolution of a crisis will not be treated in this essay. In addition, the responses will be limited to the European Union.
The next chapter is dived in 5 parts exploring mechanisms to contain financial crises. It represents a sequence that has been observed in the recent crisis in Europe. Chapter 3 gives an outlook. The last chapter concludes.
Table of Contents
I. Introduction
II. The evolution and stages of the responses
Regime already in place – the ex ante measures:
1. Deposit Guarantee Schemes
2. Lender of last Resort (emergency loans)
Special Resolution Regime
Measures for the containment
The Liability Side Measures – ex post measure part one
3. Capital Injections
4. Debt Guarantees
The Asset Side Measures – ex post measure part two
5. Asset Purchasing
6. Asset Guaranteeing
Resolving of trouble institutions – ex post measure part three
7. Temporary Nationalisation & Restructuring
8. Bad banks and Good Banks
9. Insolvency
III. outlook
IV. Conclusion
Research Objectives and Key Topics
This paper aims to analyze the regulatory responses to the financial crisis of 2007-2009 within the European Union, evaluating various containment mechanisms against common principles for action to determine their effectiveness in restoring market confidence and stability.
- Analysis of ex-ante measures versus special resolution regimes.
- Evaluation of liability-side interventions including capital injections and debt guarantees.
- Assessment of asset-side measures such as asset purchasing and guaranteeing.
- Examination of institutional resolution methods like nationalization and bad banks.
- Constraint analysis regarding moral hazard and market discipline.
Excerpt from the Book
3. Capital Injections
According to Faeh, Grande, Ho, King, Levy, Panetta, Signoretti, Taboga and Zaghini some governments inject Tier 1 and 2 capital into the bank by purchasing common and preferred shares, subordinated debt, warrants and other financial instruments. Similar to the Lender of Last Resort, Steven Schwarcz proposed the liquidity provider of last resort (LPOLR) model, in which the state would purchase securities of the distressed company and hence assist in raising finance when no other market participant is willing to do so. The motivation in his model is that in panicked markets general investors are more reluctant to purchase securities. In contrast to LOLR it would allow the state legal participation in the governance of the bank. According to the EC Communication on State Aid the Member States employing guarantees ought to put into place the “…appropriate provisions that enable [them] to enforce … behavioural constraints…” which is legally achieved due to the coupled participation rights in the shareholding. Hence laws have to be amended to a minimum extend in order for the authorities to gain participation rights in the institution. In fact, the state first requires the institutions to fully exhaust all possible methods to raise finance before offering other remedial measures. The undertaking raises several concerns for investors. First of all, voting rights as well as earning rights dilute due to the issue of new shares at a discounted price. The dilution of voting rights may even be one of the biggest concerns of investors, who fear that the government may exercise its rights for investors in an unfavourable manner – allegations of nationalisation arise.
Summary of Chapters
I. Introduction: This chapter defines the scope of financial crisis containment and sets the research context for analyzing regulatory responses within the European Union.
II. The evolution and stages of the responses: This section details the sequence of crisis management, covering ex-ante measures, liability-side interventions, asset-side support, and various institutional resolution strategies.
III. outlook: This chapter discusses the potential for a standing resolution regime and the challenges of balancing predictability with the need for emergency flexibility.
IV. Conclusion: The conclusion synthesizes the findings, noting that while no single measure is superior, a preferred two-phased sequence exists for stabilizing institutions and restoring market confidence.
Keywords
Financial Crisis, Systemic Risk, Lender of Last Resort, Special Resolution Regime, Capital Injections, Debt Guarantees, Asset Purchasing, Bad Banks, Financial Regulation, State Aid, Banking Crisis, Moral Hazard, Insolvency, Deposit Guarantee Schemes, European Union.
Frequently Asked Questions
What is the primary focus of this paper?
The paper explores and analyzes the various containment mechanisms used by regulators to manage and resolve systemic financial crises within the European Union during the 2007-2009 period.
What are the central themes of the work?
The central themes include the distinction between ex-ante and ex-post measures, the trade-off between market stability and moral hazard, and the legal constraints surrounding state intervention.
What is the main objective of the research?
The goal is to evaluate different regulatory responses—ranging from capital injections to nationalization—in light of European principles to identify which strategies are most favored by regulators.
Which scientific methodology is applied?
The work utilizes a comparative analytical approach, examining existing legal frameworks, policy communications, and empirical evidence of government interventions during the financial crisis.
What is covered in the main body of the text?
The main body examines three phases of ex-post measures: liability-side interventions (capital injections, debt guarantees), asset-side interventions (asset purchasing, asset guaranteeing), and institutional resolution techniques (nationalization, bad banks, insolvency).
Which keywords best characterize the work?
Key terms include Systemic Risk, Special Resolution Regime, Financial Crisis Containment, State Aid, and Market Discipline.
Why does the author argue against explicit deposit insurance in certain contexts?
The author highlights that some scholars fear explicit insurance may encourage moral hazard, potentially leading management to take excessive risks, though it provides necessary ex-ante confidence for depositors.
How does the "one time, last time" principle apply to bank bailouts?
This principle dictates that state aid should be temporary, proportional, and not repeated, ensuring that interventions are limited in duration and scope to minimize market distortion.
What is the "too big to fail" logic mentioned in the text?
It refers to the regulatory constraint where systemic institutions cannot be allowed to fail due to the catastrophic ripple effects on the wider financial market and real economy.
- Quote paper
- Christian Alexander Mecklenburg-Guzman (Author), 2011, Financial Crisis Management, Munich, GRIN Verlag, https://www.hausarbeiten.de/document/177257
