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Why Did Policy Ignore the Harbingers of the Crisis?
in: Gerhard Rünstler, Ewald Walterskirchen, Special Issue: The Aftermath of the Financial Crisis: Conference in Honour of Kurt W. Rothschild
Empirica, 2011, 38(1), pp.107-130, http://www.springer.com/10663
An analysis of the monetary authorities' reports for 2005 to 2007 reveals that they were well aware of the risks of the financial crisis. They, however, tended to overemphasise the risks outside their control and to neglect those, at least partially under their control. Central banks should and could have acted already in 2005. Academic studies and their own assessments clearly indicated an accumulation of risks. Monetary authorities didn't react as 1. they believe in self-regulating markets, and 2. in monetary instruments' ineffectiveness to prevent bubbles, as well as 3. their tendency to assigning an extremely low probability to potential risks. This is not untypical for expert assessments: Risk assessment for complex systems is extremely complicated. If feasible at all, it would require extraordinarily complex techniques to take into account the tight coupling of system components and their complex interaction. This will not be possible in the foreseeable future. As a result reducing the system's complexity appears to be the only way to reduce the probability and the severity of future financial crises.
Keywords:Financial crisis, Forecasting, Economic policy
Research group:Macroeconomics and Public Finance
Language:English

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