By lifting the liquidity constraints inherent in administrative controls and excessive regulation, today’s financial arrangements have contributed to output and income growth of enterprises and households alike. The most vivid illustrations of the potential of open financial markets to raise efficiency and improve resource allocation are the spectacular growth rates which several emerging market economies realised over the last two decades.
But recurrent bouts of financial turmoil, not least in those high-performing economies, also demonstrate that financial markets do not always work efficiently and produce competitive outcomes. I have concentrated here on three types of market failure which can cause major financial shocks and damaging instability. For some these failures are sufficient ground for advocating a return to administrative control of financial activity.