Playing with fire

Andrew Palmer explores the benefits and costs of financial innovations. He goes ahead to assess the previous and current regulatory frameworks. Financial innovations are essential in that they may produce many benefits just as they would enhance growth and efficiency in any other industry.

However, it should be moderated so that it does not tend towards excess (Palmer 3). Therefore, financial innovations can be said to have both benefits and costs. Recent financial innovations have been reported to be very explosive. They have been characterised with the presence of a huge number of products that have been introduced to the market before they could be understood fully. Many experts in the field of finance have expressed their worries concerning recent financial innovations.

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The Economist uses the example of Peterborough rehabilitation to show some of the ills in terms of financial innovations. It implies that as the Peterborough rehabilitation flourishes, and so do the investors (Palmer 4). There seems to be no motivation for the local authorities to perform. The investors would not be rewarded for living in a dangerous environment.

Many changes have occurred in the industry such that many useful professions have been regarded as dirty businesses. The banking industry, for example, was once a renowned profession whereby the customers were valued highly and their finances safeguarded by the financial institution. However, it has been disregarded and the customers do not appear to be as important as they used to be. The agenda of the bankers appear to be tainted since they seem to only favour their own benefits.

During the financial crisis in 2007 and 2008, financial innovations graced the occasion. However, today’s policymakers are being annoyed by the sovereign credit-default swaps (CDSs). The rising of the exchange-traded funds is making things even worse. Some are worry that they are increasingly becoming more complex such that it is not of benefit to them. Investors and regulators have not been left off the hook either. The trading that is happening at high frequencies is becoming troubling for the investors and regulators.

On the other hand, the innovations that have been deemed controversial have been argued (by the champions of innovation) to be of much importance. These innovations include the likes of securitisation and the credit-default swaps. Investors are increasingly developing ideas on how to create new markets in order to curb the effect of the new laws. They further argue that systems are in place to provide security in case some of these innovations go bad.

The report basically assesses the functions of the financial innovations during the crisis. The benefits and dangers of the ETFs and high frequency trading are assessed. The dangers of conducting high-frequency trade include risk management failures that result in huge losses. However, high frequency trading could be beneficial in putting an edge to the investment this explains why the author believed that it would be hard to imagine a world without high frequency trading (Palmer 12).

The financial crisis was characterised by various failures. The bankers, regulators, economists and shareholders failed in a way or the other (Palmer 13). One of the failures was that of plumbing. Another failure was that of the imagination.

Regulators have been determined to have a weakness in that they may not be good predictors of impending dangers in case of financial crises. Therefore, it is important for the system to have enough capital in order to combat calamity. However, innovations may be encouraged since this would increase the chances for the prosperity of the industry (Palmer 16).

Works Cited

Palmer, Andrew. “Playing with fire.” The Economist 1.1 (2012): 2-16.

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