Financialization

Definition

Financialization refers to the increasing dominance of financial motives, financial markets, actors, and institutions in the operation of domestic and international economies. This shift emphasizes the role of financial activities over traditional economic activities like production and trade, leading to changes in corporate governance, labor relations, and economic policy. Financialization can exacerbate economic inequalities and increase vulnerability to financial crises, making it a critical element in understanding global financial crises and contagion.

5 Must Know Facts For Your Next Test

1. Financialization became prominent in the late 20th century, particularly after the 1980s, as deregulation allowed for more speculative financial activities.
2. It leads to a focus on short-term profits rather than long-term investments in productive capabilities, influencing corporate behavior significantly.
3. The impact of financialization often includes greater volatility in financial markets, making economies more susceptible to crises and contagion effects.
4. Households also experience financialization through increased reliance on debt, including credit cards and mortgages, which can amplify economic risks.
5. Globalization has played a significant role in financialization, as capital flows across borders can lead to rapid transmission of financial shocks between countries.

Review Questions

• How does financialization influence corporate behavior and decision-making processes?
  • Financialization shifts corporate priorities from long-term growth to short-term profit maximization. Companies may prioritize stock buybacks or dividend payments over investing in research and development or employee wages. This change can weaken the overall productive capacity of firms and result in less innovation and lower wages for workers as companies focus more on appeasing shareholders.
• In what ways did financialization contribute to the onset of the Subprime Mortgage Crisis?
  • Financialization led to an explosion of complex financial products like mortgage-backed securities that obscured risk. Lenders increasingly issued subprime mortgages to high-risk borrowers with less stringent credit checks, motivated by profits rather than sustainable lending practices. This behavior contributed to inflated housing prices and ultimately culminated in widespread defaults when borrowers could not meet their obligations, triggering a severe financial crisis.
• Evaluate the broader implications of financialization on global economic stability and the potential for contagion during financial crises.
  • Financialization creates interdependencies between global markets that can enhance both growth opportunities and risks. The reliance on sophisticated financial products means that economic shocks can quickly spread across borders through channels such as derivatives trading and cross-border investments. This interconnectedness can lead to faster contagion during crises, as seen during the 2008 financial meltdown when issues originating in the U.S. housing market rapidly impacted economies worldwide, demonstrating how financialization can undermine global economic stability.

Related terms

Derivatives: Financial instruments whose value is derived from the value of other underlying assets, often used for hedging risk or speculating on price movements.

Subprime Mortgage Crisis: A financial crisis that occurred in the late 2000s due to the collapse of housing prices and a surge in mortgage delinquencies and foreclosures among high-risk borrowers.

Shadow Banking: The collection of non-bank financial intermediaries that provide services similar to traditional commercial banks but operate outside normal banking regulations.