Examining Asymmetric Information in the 2008 Global Financial Crisis

This report examines the global financial crisis of 2008, tracing its origins to the US housing market and highlighting the critical role of asymmetric information. The crisis was exacerbated by factors such as the securitization of assets, the creation of complex financial instruments, and the rise of toxic assets, making it difficult to gauge the risks involved. Asymmetric information, where some parties in a transaction possess insufficient information compared to others, played a significant role in the crisis. The rise of intricate financial goods and the increased prominence of third-party managers further obscured the real risks, leading to a hidden problem when the mortgage market declined in 2007. The report references key studies to support its analysis of the crisis and its causes.

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The global crisis of 2008:
The financial crisis, which dates back to the year 2008, is one of the most devastating times
in the economic history of the world. It had its origin in the US housing market. Its probable
origins dates back to the year 2007-09. From the 70s, both the US and the UK had started
selling off their own credit risks to different third parties and had become increasingly
dependent on computers for risk assessment procedures, thereby ignoring the traditional bank
manager’s role in this. Secondly, relaxation of rules regarding the transfer and movement of
capital goods in the 70s and 80s, had increased the number of bank mergers (The Financial
Crisis, 2018). Complex financial instruments were also created in this period. Thirdly,
securitisation had also started, where asset backed debt were created and used. Fourthly, there
was an increase in the creation of various kinds of toxic or unhealthy assets (Chodorow-
Reich, 2013). These toxic assets were the result of the complex nature of the investments,
where it was practically impossible to gauge the risks of these financial debts. All these
factors, led to the growth of one of the most dangerous financial crises of recent times.
Role of Asymmetric information:
The role of asymmetric information has been huge in the failure of arresting this crisis. In the
perspective of financial markets, it refers to a phenomenon where, some parties of a
transaction have insufficient amount of information as compared to others. Adequate
information is required in order to evaluate all the potential risks, and to make a coherent
decision about the purchase of the financial product. The advent of intricate financial goods
in the early 80s, and the augmented fame of securitisation in the late 80s, amplified the
ineffectiveness of numerous financial transactions (Reinhart & Rogoff, 2008). This
wastefulness was the consequence of a party, generally the seller, who possessed more and

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important materials and facts than the other party, which is typically the buyer. Besides, with
the increase in the prominence of professional third parties, like hedge fund managers, the
real buyers and sellers were ignorant of the real risks related with any agreed transaction, and
were usually oblivious about the source of the investment income. Consequently, in 2007,
when the mortgage market started to have a downfall in the US, the size of the problem
continued to be fundamentally hidden (Reinhart & Rogoff, 2008). Thus, asymmetric
information had a huge role to play in the crisis.

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References:
Reinhart, C. M., & Rogoff, K. S. (2008). Is the 2007 US sub-prime financial crisis so
different? An international historical comparison. American Economic Review, 98(2), 339-44.
Ivashina, V., & Scharfstein, D. (2010). Bank lending during the financial crisis of 2008.
Journal of Financial economics, 97(3), 319-338.
Chodorow-Reich, G. (2013). The employment effects of credit market disruptions: Firm-level
evidence from the 2008–9 financial crisis. The Quarterly Journal of Economics, 129(1), 1-59.
The Financial Crisis. (2018). Retrieved from
http://www.economicsonline.co.uk/Global_economics/Financial_crisis.html