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Financial crisis that had severe impact on developed economies

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Book Review: Shift and Shocks has been written by Martin Wolf in 2014. The context of the book is 2008’s financial crisis that had severe impact on the developed economies, the Eurozone, the US etc.

The author has written other books as well such as why globalization works and Fixing Global Finance. This comprised of three main sections; the shocks, the shifts and the solutions. In these three sections there are different chapters. There are three chapters in section 1, two in section two and four in the Solutions sections. Part one, overall deal with financial crisis and its long-term effects on high income economies.

It is a fact that this crisis worsened the economic situation in these countries. This had made Chapter one looks into global financial crunch and it’s after affects and current situation in affected countries. In chapter two, further, effects in Eurozone are explained. In which it is found that economic activities are jolted and policies acted barely played a helping role. In the last chapter of Part 1, author has brought emerging economies into the picture.

These economies apparently are less affected or least affected but there are serious concerns about excessive private debts and assets bubbles. In part two, The Shifts, the author with help of literature and history investigated how the world economy got in this situation. He tried to find out the root cause of this economic hap hazard situation. In his opinion, if we want prevent economies from any future crisis or dump, then, we should know what was policy or decision or trend that led us here.

The first chapter in this part is set to focus on economic fragility. This chapter raised and addresses number of questions about financial system, its credibility and causes about fragility. Was it the policy stance that worsened it etc., toward the end, all the pointed concerns become right i.e., all these were the reasons for the worse economic downturn of the 20th century? In the second chapter (part II), it is argued that financial system is not the only culprit in the ‘great recession’ but a number of global economic events also added to the crisis. The previous chapter tried to capture the link of financial system in the crisis, this chapter gone deep to find more about the crisis. Global economic events, including the emergence of a “global savings glut” and the attendant credit bubble, were occurring below it, partially as a result of a variety of interconnected economic shifts.

A significant factor in this was the emergence of global imbalances, since mature economies were unable to properly utilize the capital that emerging economies decided to export to them. Real interest rates around the world reached unusually low levels following the Asian financial crisis. This led to a spike in asset prices that later descended into a bubble. The shifting income distribution between capital and labor as well as among workers played a significant role in the formation of the savings glut.

The chapter also made the case that most alternative interpretations of the macroeconomic origins of the crisis, particularly loose monetary policy, mix causes with effects. Globalization, rising inequality, and a lack of investment in highincome economies are signs of fundamental changes in the world economy that lie behind the escalating imbalances and the surplus of savings they have generated.

These changes are the result of liberalization, technology, and population ageing. In chapter five, it was also discussed how the credit bubble, savings glut, and underlying design faults contributed to the Eurozone’s severe crisis. It was argued that in order to comprehend how five factors interact, one must first understand how mistakes in design, mistakes in policymaking by creditor and debtor countries prior to the crisis, the fragility of finance, particularly the banking system in Eurozone countries, errors in monetary policy, and failures to come up with effective solutions when the crisis actually occurred. The risks of failure therefore continue to be high, with potentially disastrous consequences for the continent’s economic stability. The solutions; Part III, first chapter searched for a better economic idea. The reason is how the modern economy works, is misunderstood.

That’s why there were serious policy mistakes before and after the crisis. It is further explained that a good macroeconomic policy, financial sector reforms, reforms in the Eurozone etc. will diminish impact of this crunch but all these do not guarantee that in the future no crisis with intensity will occur. It is also to be noted that these measures make recovery too weak and unbalanced. The next chapter in this section examined ways to improve the financial system. It began with the reforms now being implemented and questioned if they would be adequate to create a safe future.

 The discussion then turns to additional reforms that might be implemented, including as suggestions to completely abolish “fractional reserve banking” and substantially higher capital requirements. The conversation was finished with the claim that because the current financial system is intrinsically dependent on the state, further drastic reform is necessary. That produces risky incentives that could ultimately lead to the insolvency of states. Real estate bubbles are one of the fragilities of finance’s most significant flaws. This section’s final chapter focused on efforts to improve both domestic and global economies. It reveals that the recovery should have had far stronger monetary and fiscal assistance. The prospects for the economy will be severely harmed if this is not done. The obvious answers are a significant increase in investment and net exports. However, both face challenges. A substantial capital inflow from developed to emerging markets is required to successfully rebalance the global economy.

The chapter went into further detail regarding how and why this might be accomplished. It necessitated changes to the world monetary system. The author looked at the effort to reform the Eurozone in chapter nine, the final chapter of Part III. The Eurozone is currently faced with an existential problem. It must choose between completely or partially dissolving and establishing a minimum set of institutions and rules that would greatly improve its functioning. Although it is theoretically possible, dismantling the Eurozone would, at the at least, result in a short- to medium-term financial, economic, and political shambles. If the demise of the Eurozone resulted in the collapse of the overall concept of European integration, the mess would last for a very long time.

The alternative changes must include measures to ensure symmetrical competitiveness adjustment as well as more effective support for nations experiencing short-term challenges, a degree of fiscal federalism, stronger financial integration, a supportive central bank, and more. The Eurozone won’t function successfully without these adjustments, and even with them, it might not last for very long. The conclusion of the book consists of what crisis is for the world, its aftermaths, and the uncertainties after the great shock which has jolted the high income countries.

It is a fact that question has risen. It is stressed that fundamental reforms are dire need of the time if we want to avoid any future meltdown. These are also essentials for stability. More global regulation and collaboration are necessary, but also need more freedom for individual nations to develop their own solutions to the demands of a globalizing world. As the globe integrates and expands, there are enormous long-term tasks in preserving the supply of global public goods, including a stable global economy, peace, and, most importantly, management of enormous global environmental concerns.

But if we don’t first get rid of the effects of the crisis, we won’t be able to meet these problems. Additionally, managing all of this is necessary as the globe shifts from being ruled by Western nations to one in which new powers have emerged. This book is an excellent work by the author, Martin Wolf. It contains a detailed explanation of 2008 financial crisis. The back ground, the impacts, challenges and way forward.

However, the author didn’t come out with a solution; the argument that what could be done to prevent such crises in the future or any clue that we can predict or foresee the upcoming crisis. This book offers a convincing analysis of why we are likely to stay in the doldrums we have been in since 2008 in addition to explaining the situation we have been in.

Numerous books investigating what went wrong have already been written in response to the catastrophe. The book sets a high bar for those that will undoubtedly come after it because it is one of the first to discuss the lack of a strong recovery. He sees the crisis as more than just a financial disaster, which is one of the things that sets this book apart from so many others and is crucial if we are to comprehend why there hasn’t been a strong recovery.

The author is right in his argument that economic theory failed to address such shocks and there is no method, or theory that has taken out crisis or shock from noise or error term and included it as an important variable in theory. In other words, it must be treated as basic variable in the model.

Aniqa Zeb is PhD scholar at Pakistan Institute of Development Economics (PIDE)

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