Chief Economic Adviser (CEA) cautioned that financialisation, viz. the dominance of the role of financial markets in public policy, might distort macroeconomic outcomes.
About Financialization:
- Financialization refers to the growing importance and influence of the financial sector in an economy.
- It involves financial markets, institutions, and intermediaries playing a dominant role in shaping economic outcomes and policies.
- Over time, financial markets have extended their reach beyond traditional sectors, shifting investment focus from physical assets (like real estate and gold) to financial assets (such as stocks, mutual funds, and complex financial instruments).
- This process has changed how economies function, placing more emphasis on financial profits rather than trade or production.
Factors Driving Financialization
- Rising middle class with increasing disposable income, leading to more financial investments.
- Inflation that drives households to seek higher returns beyond traditional savings options like fixed deposits.
- Government incentives promoting investment in financial instruments.
- Increasing digitization and financial inclusion, enabling easier access to financial services and products for a wider audience.
History
- Financialization began with the collapse of the Bretton Woods system in the 1970s, marking the start of neoliberal economic policies.
- These policies emphasized deregulation, privatization, and the expansion of financial markets.
- As financial markets grew, new instruments such as securitization emerged, leading to an increase in the diversity and complexity of financial products available.
- The U.S. financial sector has been particularly significant, contributing to a shift away from manufacturing and toward services, but this has also sparked debates about its broader impact on the economy.
Concerns
- Increased inequality: Financial profits are disproportionately funneled to the wealthiest, particularly the top 1%, due to equity ownership.
- Economic distortion: Economic activity is increasingly driven by financial market movements rather than traditional sectors like manufacturing or services. This shift affects employment rates and overall standards of living.
- Rising household debt: Stagnant wages force households to rely more on credit and loans, a trend observed in economies like the U.S.
- Policy impacts: Financialization can lead to policies favoring predatory lending and risk-taking, undermining worker protections and economic stability.
- In developing countries, rapid financial market growth ahead of economic stability, like in the Asian financial crisis of 1997-98, can lead to severe economic disruptions.
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Frequently Asked Question:
What is financialization?
Financialization refers to the growing dominance of financial markets, institutions, and intermediaries in shaping economic outcomes.
How has financialization changed economies?
It has shifted focus from physical assets and production to financial profits, impacting traditional economic sectors.
What is the Bretton Woods system?
The Bretton Woods system was a global monetary system that established fixed exchange rates between currencies until its collapse in the 1970s.
How does financialization contribute to economic inequality?
Financialization channels wealth to the top 1% through equity ownership, increasing the wealth gap.