6.

Should government regulate investment banks and private equity funds and

hedge funds? If so, would this regulation have to be international in scope?

Yes, government should regulate investment banks, private equity funds and hedge
funds, and this regulations have to be international in scope. As we know, hedge
funds related to commodity and foreign exchange markets. Not only that, some hedge
funds were owned by European or U.S. financial institution. So, it need to be
internationally.

Based on the case study, we can detect many difficulty was exist when government
not intervened in regulation of their activities or financial statement. Firstly, new
kinds of hedge funds introduced the risk of greater volatility, and they exposed
investors to sudden shocks because many of hedge funds faced huge losses.
Furthermore, many hedge funds were located in tax havens where they faced no
regulation of their activities of financial statement.

Other than that, without government regulations, hedge funds manager can charged
substantial performance fees based on his/her wishes. Sometimes, the fees as much as
20 percent of the funds gains. Not only that, both investors and managers expected
that the funds will give high-risk high-return. By 2007, it was estimated that hedge
funds had some $1.6 trillion in assets under management. Investors included financial
institutions such as pension funds and not-for-profit institutions. In several situations,
hedge funds lost substantial portions of their worth over the period of a day or two
which means the banks that had lent to hedge funds suddenly pulled back the credit
lines and demanded more security against their loans.

Second, when there are no government regulation, investment bank began to slip from
their main function which is act as conduit for raising debt and equity for corporation
and start to purchase debt and equity and derivatives related to risk for their own
account. Not only investment bank but private equity fund also ventured into this set
of activities as well.
Next, when there is no regulation from government, investment bank will join new
financial instrument. When the investment banks join this new financial instrument, it
will turned investment banks into debt machines that trade heavily on their own
accounts. The banks will use higher equity to get the assets. For example, Goldman
Sachs need to use about $40 billion of equity as the foundation for $1.1 trillion of
assets. In excellent market, gearing like that can create a good returns on equity but
when become market not in good condition or danger, a small fall in asset values can
wipe shareholders out.

Conventionally, when a bank made a loan, it kept the loan on its balance sheet until it
was repaid. This process meant that the initial lending decision was made on the basis
of careful consideration of the creditworthiness of the customer. With the new
financial instruments, a bank had three options; 1) it could hold the loan in a special
purpose vehicle off its balance sheet, 2) it could sell the loan to others, 3) it could pay
another institution to accept the risk of default. When bank involve with the new
financial instruments, actually its become same as previous corporate disaster such as
Enron, WorldCom and Parmalat because there was a lack of accountability, a lack
of responsibility, and a lack of transparency.

As a conclusion, in my opinion, government should regulates this banks and funds to

prevent the recurrence. Martin Wolf was created principles of Seven Cs that should
be followed in the creation of a new regulatory framework which is; 1) all financial
institutions should be included in global rules concerning capital requirements and off
balance sheet vehicles, 2) there also must be requirements related to liquidity within
each institution, 3) transparency must be improved, and rating agencies must operate
more accurately, conflicts of interest must be removed, 4) a new regulation should
require that all financial instruments be traded on exchanges in order for market
forces to impact their prices, rather than having prices determined by negotiation
between institutions. At the end, we can write all the rules we want, but there has to
be a philosophy of ethical behavior that comes from human beings operating in a
professional ways.
12. Did the financial crisis make a recession inevitable?

Financial crisis happen when the value of financial institutions or assets fall at the

great rate. When financial crisis occur usually investors will sell off assets or

withdraw money from savings accounts because they belief the value of those assets

will drop if they remain at a financial institution. A rapid string of sell offs can result

in lower asset prices or more savings withdrawals. If left unchecked, the crisis can

cause the economy to go into a recession or depression.

Recessions means negative GDP growth over two consecutive quarters and also can

be identify when demand for services are decrease, rising unemployment, reduced

consumer spending and loss of business confidence, profit and investment. This

situation occur due to the low inflation and increased government borrowing.

According to the case study, the 2007 - 2008 financial crisis give a big impact in

increasing global pressure on inflation. When inflation occur, consumer faced

decreases in purchasing power and demand for other products also possible to

decrease. This situation would push certain industries into lower growth and reduced

aggregate demand. In addition to this development was the overwhelming concern

that consumers might react to the threat of job and investment losses by cutting their

expenditures, thereby shoving economies into a substantial recession.

Every time a bank makes a loan, new money is created. Financial crisis happen when

banks created huge sums of new money by making loans. Lending large sums of
money into the property market make the price of houses increase together with the

level of personal debt. Interest has to be paid on all the loans that banks make, and

when debt increase quicker than incomes, this make people become unable to keep up

with repayments. When this happen, people will stop repaying their loans, and banks

have high possibility to going bankrupt. The former chairman of the UKs Financial

Services Authority, Lord (Adair) Turner said the main factor for financial crisis of

2007-2008 happen are when we failed to avoid the financial systems creation of

private credit and money.

After financial crisis occur, banks limited their new lending to businesses and

households. When lending activities decrease, its caused prices in these markets to

drop. This situation become disadvantage for those that have borrowed too much that

speculate on rising prices and at the end they need to sell their assets in order to repay

their loans. House prices dropped and the bubble burst.

So when the economy in bad condition, banks will take action to limit the lending to

public. Eventhougth bank reduce the amount of new loans, the public still have to

paid back on the debts that they already make. So when people repay loans quicker

than banks are making new loans, this make the economy slows down and prices

decline. This circumstances will create risk for economy to trap into a debt-deflation

spiral, where wages and prices fall but peoples debts do not change in value, leading

to debts becoming relatively more expensive in real terms. Businesses and people

werent not actually engages in creating the bubble suffer, also make recession occur.