Trans-National Financial Crime


The global financial crisis was a situation that arose when the American Mortgage Market sold a large number of mortgages to a market that had inadequate income to payback the same. The result was a load of paper investments that were turned into security. These were sold to major financial institutions across the world. No one expected the mortgage holders to default in the long run. When this happened, and given that they were acting as securities, the mortgages created what was called a “Credit Crunch.”

The financial situation affected many economies severely, leading to unprecedented negative impacts on the global economy and a financial recession. The United States Federal Reserve Bank and treasury department tried to inject liquid cash into the markets in efforts to salvage them. But the impact had spread so far to be controlled effectively. The notion that the global financial crisis could have been prevented led to the realisation that the government ought to regulate the operation of the financial markets in the future (Shane, 2010).

The Nature of the Financial System

Due to the nature of the financial system and order of its operation, it is clear that the operators and players in the market are not concerned by the government efforts to effect regulations. To get a deeper understanding of this issue, one first needs to understand the nature of the financial market and how it operates.

A financial system comprises of agents, brokers, institutions, and other intermediaries involved in buying and selling of securities. The players operating in the financial markets are inter-connected by contracts between them. The communication infrastructure that makes the financial structure visible in the society and the laws that govern the operations are clear (Shane, 2010). The market is mainly operated by investors, customers, insurance companies, stock exchange market and financial institutions like banks and exchange bureaus.

Financial markets are characterised by imperfect structures and the financial intermediaries4 derive benefits from these shortcomings. The way this market operates is understood from the perspective of the financial institutions which are represented by agents, brokers and intermediaries (Buiter, 2009).

The latter offers solutions to the market failures, providing the players with an alternative to government intervention. Activities such as borrowing and saving money while lending it to others as loans are the market solutions the financial intermediaries offer to the economy. The financial operations are focus on the future rather than on the present, and are thus characterized by risks. The market prices for financial assets are not available and they can not be predicted (Heremans, 1999). The prices tend to fluctuate from time to time. The key role of the financial system is to allocate funds to income earners who desire to acquire the financial assets, backed by banking institutions that keep money for the investors (Shane, 2010).

This makes the process risky, which is compounded by their liquid nature which makes the business run smoothly and ensure stability of the economy. The fluctuating nature of the prices of market assets provides an opportunity for the parties in the system to adjust it at their own discretion. Considering the low costs of transactions, it is these factors that make the financial markets to be unstable (Heremans, 1999).

Financial markets enable the movement of funds from savers to investors. They invest the money in capital assets. The markets play a role in distributing savings among investments and expenditures in the process of trading in securities. The role of financial institutions to this end is to facilitate the distribution of money and capital. This is achieved through payments’ mechanism, security trading, risk diversification and portfolio management (Heremans, 1999). These functions lead to efficiency in the financial system. Technology has improved the financial processes by making them easy and fast. The categorization of the services offered by the financial institutions is detailed below.

Risk Distribution

The financial market plays a significant role in the distribution of economic risks. The various risks that investors face are distributed by the creation and distribution of financial securities. An example is an investment in a $100 million mobile phones’ company where the chances of failure in the business are divided among thousands of investors living and working all over the world. If the business does not yield profits, the various investors will lose only part of their wealth but will continue to receive income from other investments and income generating ventures such as employment (Alexander, Dhumale, & Eatwell, 2006).

Diversification of Risk

The financial markets also allow individuals to diversify in their investments. The benefit of diversification in investments by combining securities with different attributes into a single portfolio is reduced risk. This is because it is hard for all of the ventures to incur losses at the same time (National Bureau of Economic Research, 1991). Total risk is reduced because losses in one investment are offset by the gains accrued from others. These benefits of diversification are made possible by the presence of a large and diversified financial market in which investors are able to buy and sell securities with minimum transaction costs and regulatory interference (Alexander, Dhumale, & Eatwell, 2006).

How the Market Operates

With the conduction of the activities in the market as detailed above, it is plausible to assume that the financial markets have their own operational trend that should not be interfered with as it is self-regulatory. The case of the global crisis vividly portrays the results of a self-regulated market and activities exposed to interference by the financial intermediaries. The financial institutions, brokers, agents and intermediaries strive to benefit more from the savers, borrowers and investors. Motivated by this desire, they withhold information on the prices in the market from the public. In some cases, different players in the financial market operate on different information (Heremans, 1999).

The financial market, as earlier explained, involves a lot of risks and uncertainties. Investors are always aware of the risky nature of their investments than the money lender who in this case may be a financial institution. The global economic melt down can be attributed to this problem. The lack of background information on the borrower makes it hard for the lender to gauge good risk applicants from bad risk applicants before making an investment (Cipriani & Guarino, 2008). The financial market behaviour is thus described to be led by “herd” instincts. The lenders, financial intermediaries and financial institutions fail to prioritise the needs of their clients, putting their interests first before every transaction. This poses a high risk to investors, savers and borrowers due to lack of information on the use of their money and the returns accrued (Cipriani & Guarino, 2008).

The “over-borrowing” by banks and financial institutions during economic booms and lending by financial institutions and intermediaries without clear information on borrower’s ability to pay back the loans are some of the factors that make it hard for the financial system to function in a stable manner. The rate of borrowing was set high to attract business, leading to unregulated lending of money by the institutions (Shane, 2010).

The government offered to bail out banks and financial institutions after the global financial crisis so as to avoid an economic meltdown. However, this was not a plausible solution since the failures of the banks were not as a result of fraud and abuse of monetary systems only. It was the devaluation of the currency that resulted in the market players’ failure to honour commitments of paying back their loans and mortgages. This devaluation was as a result of the instability of the financial market rates (Mahathir, 2009).

All of the above factors have led to the instability in the financial system. This calls for regulations from governments and other stakeholders to ensure that it does not crumble again. From previous experiences in Italy and the proposal by the Euro Area, it is clear that the main reason for regulation was to attain financial market stability. The need for a stable financial system led to introduction of regulations over the financial exchange and security settlement systems (Giorgio, Noia, & Piatti, 2000).

The measures that need to be followed to ensure stability of the financial markets can be highlighted from two perspectives. The first is the general rules and protocols on the stability of all business enterprises, while the second is the entrepreneurial activities involved in the financial market. The latter are for example the legally required amount of capital, borrowing limits and integrity requirements (Sheng, 1997).

Financial regulation is seminal in ensuring transparency in the market. It also helps in intermediaries and investors’ protection from the ‘herd behaviour’ of the market players. This is linked to the general objective of equity in the distribution of available resources such as information on the market. Proper dissemination of information about the market is vital in the promotion of non-discrimination measures between intermediaries and different customers (Sheng, 1997).

Risks of Instability in a Financial Sector

Stability forms the core of a strong and effective financial sector. The major problem with the financial sector is that the outcome of an individual problem is likely to affect and endanger the whole financial system. This shows that the failures in the operation of the financial sector have consequences which are far reaching. The failures affect not only the individual investors and savers but the whole economy (Alexander, Dhumale, & Eatwell, 2006). They can make the stock market crash, result to bank failures and other financial disasters that endanger the stability of the whole economy. The market prices can fluctuate without warnings, and this leads to heightened risks in financial markets (Anonymous, n.d).

The players in the financial market have taken advantage of the loopholes in the financial system to make large profits through exploitation and wrong decision making. This leads to a concern that the banks will continue operating within the same routine despite the problems earlier experienced. No amount of regulation will deter them from their operations, similar to those that led to the global economic recession. A close analysis of the activities that may lead to instability shows that they can be avoided. The information on borrowers and lenders’ financial positions and stability of institutions through which savers invest their money can be made public (Giorgio, Noia, & Piatti, 2000).

If this flow of information is observed, borrowers who are not able to commit themselves to the repayment obligations will be weeded out of the system. Depositors will also be informed on the credit risks of the institutions they save their investments in. The risks that the institutions face, for example savers and depositors withdrawing their funds on short notice, can be averted since they will be aware of the risks of their deposits. This will shield them from the risk of high liquidity needs of depositors (Heremans, 1999).

A liquidity risk may arise when depositors collectively decide to withdraw funds that are more than the banks available liquidity base. This may force the bank to liquidate relatively illiquid assets at a loss so as to cater for the deficit of the depositors cash need. This is a risk faced by many banks and may lead to instability in the financial market. In a financial system, the activities of one bank are likely to affect others (Shane, 2010). This is attributed to the inter-relation in the financial market. Thus, a failure in one institution may create financial instability and finally result in a systemic crisis. This is especially so because of the increasing international capital mobility where institutions invest across the globe in one portfolio (National Bureau of Economic Research, 1991). This may be a source of a worldwide financial crisis.

Need for Regulation: What Governments Can and Should Do to Regulate Market Behavior?

The theory of regulation is a subfield in the wider area of governance. It examines how collective action by individuals, through the supervision of the government, affects the benefits of market players and their behavior in private markets. Though regulation is widely criticized by the players, it is evident that the problems resulting from a systemic crisis can not be left to individual institutions. There is need for a bailer (Market Behaviour Case, 2007). The goal of regulation is the securing of a stable financial market and guarantee of stability to the customers and market players (Heremans, 1999). A financial market or system can only be at its best when investors are informed about the market activities and risks. If the market can be free of fraud and manipulation by market players, it is possible to maximize benefits (Buiter, 2009).

If regulation is embraced, the threat of possible failure of one financial institution and likelihood of the failure of others as a result can be contained. This can also cushion many customers and market players’ from the eventual collapse of the market (Market Behaviour Case, 2007). Regulation of financial markets’ behaviour is best achieved through the intervention of the government in the institutional structure. This is done through legal restriction on traditional practices, and implementation of technology in exchange (Dabrī, 2008). These structures vary widely in terms of their economic efficiency.

Creating a Monetary Policy

The government should introduce a policy that checks the volume of money in circulation. A monetary policy will be handy in ensuring stable payments. The base of a stable financial system is an efficient monetary policy. This will result in the regulation of institutions that can offer deposit accounts. The weakness of this regulation is money supply control in the provision of additional liquidity when need arises (Alexander, Dhumale, & Eatwell, 2006).

Recovery from the Global Financial Crisis

The economic recovery from the global financial crisis has been a result of government intervention in the financial markets. This intervention hinders the forces of the free market by creating market equilibrium which leads to benefits of market booms (Sheng, 1997). In the financial markets, interest rates determine the value of money. When the interest rates are high, they lead to more investments thus increased supply of money. But this makes investments in the money market expensive (Cipriani & Guarino, 2008).

When the rates are low, the supply of money falls as there is reduced saving. This on the other hand makes investing in the money market cheaper. When the government intervenes in the financial markets, it leads to weakening of the market forces. The regulation by the use of its monetary policies to control the supply of money affects the interest rate. The increased supply of money can drop the interest rates whereas less supply of money leads to very high interest rates. The supply of money however should also be limited to avoid inflation (Giorgio, Noia, & Piatti, 2000).

Inflation may also result to hiking of interest rates. A high inflation level will make the market players set steeper interest rates for their services. This is in order to cover for the decline in value of money at the time they lent it out. Therefore, the government has to regulate the money supply to enhance positive growth in the financial market. This leads to increase in productivity and employment. It also tries to reduce the occurrence of inflation (Anonymous, n.d).

Regulation of Lending Institutions and Real Estate’s Investments

If government regulates the lending institutions and moves in to regulate home mortgage loans investment, it may help protect financial institutions and consumers. It may also help its citizens to acquire homes. Case studies from 2003 to 2007 in the United States reveal that the government increased money supply by 50% through its monetary policies (Shane, 2010). This was to help stimulate the investment sector by making money available for credit. This led to great reduction in the interest rates to near zero levels thus increasing money availability for investment. An analysis of the results of the government interference in the money market shows that low interest rates made direct savings to have low incentives and made investing and borrowing very cheap (Shane, 2010).

This resulted to a housing boom since many people took this opportunity to borrow and invest in real estate. There was misuse of the system by greedy managers who seized the opportunity to enrich themselves by giving out more loans without sureties and collaterals. In the long run, it culminated into crisis. But the government has come in to ensure that it can regulate the banks’ activities (Shane, 2010). It can regulate how bankers acquire their incomes and also regulate their income levels. This will be through regulation of products and industry which can be done by implementing laws and administrative rules to control the bankers’ activities (Buiter, 2009).

Regulation on Functions and Products of the Financial Market Players

The government needs to regulate products, functions and institutions of business in the market. An example of regulation in the US banking sector is the functional regulation that is generally conducted by two separate regulatory bodies. These are the investor protection and systemic stability arms. The investor protection arm is responsible for the regulation of the functioning of the retail depositors and small investors. It has policies that stream line their performance to ensure fair conduct, allow equitable competition and provide customers with protection from unfair banking policies (Sheng, 1997).

The systemic stability agency is responsible for the regulation of the larger market players and their activities. It is also responsible for the safety of the clients’ assets and investments. It provides legal and operational structure and efficient functioning of all payment systems. This is together with their security in the financial markets. Regulation is on the capital adequacy requirements which are supposed to attain a set threshold (Sheng, 1997). Constraints are imposed on selected services and other rules are put in place to avoid insolvency.

A look at the Arab markets reveals a significant structure that governs their financial markets. It presents a framework for legal entities of the Arab Financial Sector at various levels (Dabrī, 2008).

The first level is created to enforce a jurisdiction system that organizes the financial transactions reflecting the economic and political views of the respective countries. The monetary policies are also reflected in the laws governing the financial activities. The second level of laws organizes activities of financial institutions. They are laws governing the operation and roles of the financial institutions. There are laws of banks, insurers, money changers, lease companies and pension funds. There are laws that control all financial services under the central bank. This is so because the financial institutions receive large volumes of deposits and premiums, calling for strict rules to control and protect residents, investors, depositors and insurance policy holders (Dabrī, 2008).

The third level of laws organizes aspects of financial markets and the corporate laws. It governs the field of trading in shares in the stock market and maintains a balance between corporate governance, investor protection and liquidity of stock market. It is composed of the securities’ laws which are responsible for the organizing of the prices and trading processes of the world stock markets. This is also a form of regulation imposed to control the financial markets and financial institution in order to maintain stability of the financial system and also protect the market players (Dabrī, 2008).

The modes discussed above are the common regulations that can be used to control the financial market and its activities (Malowski, 2007). The regulations help in protecting the customers of financial institution and their investors. They help in regulating the stability of the financial system to ensure its effective functioning and continuity of providing services (Giorgio, Noia, & Piatti, 2000).

The Global financial crisis revealed the fragility of the international financial system in place. It exposed the risks of lack of regulation and results of bad supervision. The fact that the crisis was as a result of the system, regulatory and supervisory failures has called for the re-writing of the financial market rules. The governments of affected nations under international financial bodies are working together to rewrite the rules of financial systems and try to stabilize the financial markets (Mahathir, 2009).

Rewriting the Financial Market Rules

World leaders have embarked on a plan to carry out financial regulatory reforms. The leaders believe in the restructuring of financial regulatory system for financial institutions and markets, and reassigning of roles to the regulating institutions. Most governments have to derive the mandate from their legal systems (Organization of Economic Co-operation and Development, 2009). In recent past, several drafts of bills of reforms to the financial regulatory system have been presented to the American parliament and in December, the House passed a regulatory reform bill. The bill proposed the creation of a new agency responsible for consumer protection in the financial market. The major attribute which was aimed at consumer protection has received criticism from the industry (Neuters, 2010).

The realization that there is need to rewrite the rules of finance and global business to restore the trust that is fundamental to the operation of financial markets is acknowledged all over the world. The impetus for this move is the idea that there is need for better regulation in the financial market, better supervision and corporate governance and better coordination (Organization of Economic Co-operation and Development, 2009). The problem is that most governments are trying to form policies that will be overly bent in protectionism. Policy makers need to first ensure that the financial systems are stable and are reenergizing the market. The policy makers are developing short term remedies and long term policies that are focused on the global economy (Gurría, 2009).

The OECD, IMF and the ILO (which are multilateral institutions) and the World Bank have given the go ahead to help the governments in developing of policies on a global spectrum. They are focused on finding ways that can balance the roles of governments and markets themselves. The OECD is cooperating with the government in coming up with policy recommendations that are aimed at strengthening corporate governance and how they will face problems such as tax evasion and corruption (Adeloitte, 2008).

The Italian Finance Minister Giulio Tremonti says recommendations should be of Global Legal Standard. They should encompass those developed by international organizations like the OECD’s previous document called the ‘Principles of Corporate Governance and Anti- Bribery Convention’ (Gurría, 2009). This shows that the efforts by governments in rewriting the rules of financial markets are given a global face while challenging the policy makers to come up with the right policies that are oriented towards the local market and fits on the global market (Giorgio, Noia, & Piatti, 2000).

The leaders believe that new approaches and angles of thinking in other areas ranging from competition, investment and pensions policies to tackling of climate change, social exclusion and poverty need to be embraced (Organization of Economic Co-operation and Development, 2009).

They have incorporated the idea of raising productivity while at the same time keeping trade and investment opportunities open. The new approach provides ways of equally distributing benefits and results of future growth (Neuters, 2010). The policies being formulated in the new market guidelines are also able to promote economic cooperation. This is also identified as a core mission of the OECD. It brings together key world players in focusing on how to re-write the new financial market rules (Organization of Economic Co-operation and Development, 2009).


The global financial crisis not only left many economies in shambles, but also prepared the ground for important reforms. The nature of the financial market has been exposing the customers of financial institutions and other stakeholders to the irrational policies of the market players. Financial markets’ behaviour has also been favouring the market players such as financial institutions and managers. This led to fraudulent and exploitative business transactions that exposed customers to exploitation by choosing loan schemes they lacked information on. The regulation of market behaviour comes in handy to protect customers and also help in maintaining stability.


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