No World State in the Brave New World - Research Paper Example

The present research has identified that systemic risk, asymmetric information, procyclicality, and bad management practices caused the 2008 crisis. However, it was the dominant neo-liberal ideology on the US markets that created the environment in which risky behavior fostered. Due to the interconnectedness of economies, the crisis spread around the globe. However, the solutions are not simple. Moral hazard must be prevented in order for any reform to have a positive effect on the economy in the long run.

Gilpin argues that political realism offers great insight into the development of the global economy. The countries will strengthen their ties through an international institution such as the International Monetary Fund (IMF), but their primary goal will remain to be the preservation of national interests, in which the role of the US as the international lender of last resort will be crucial. Mortgage-backed securities and credit default swaps (CDSs) became popular in the US after 2000. A mortgage-backed security is a pool of mortgages that were bundled together and sold as securities.

They became popular because they were low – risk since the housing prices kept on increasing. An average mortgage had an average return of 5% to 9% in interest per year. CDSs are insurance-like contracts. They are used for municipal bonds, corporate debt, and mortgage securities. In an event of a default, they would cover losses. Since the CDC market was not regulated after 2000, investors traded contracts “without any oversight to determine their value and ensure that the buyer had the resources to cover losses in case of default”.

Nobody understood the fickleness of the new financial instruments. Before the crisis, the Treasury focused on “risk mitigation beforehand and on preparing broad outlines of appropriate responses in the event that a crisis did develop”.