Klaus Regling, German economist and co-author of an upcoming report into the banking crisis, has told the Finance Committee that free markets are largely driven by herd instinct and are therefore not good at reacting to early signs of trouble.
He was responding to a number of Joint Committee on Finance and the Public Service members who asked why no experts appeared to foresee the global banking crisis and why international financial institutions had not acted or altered their practices, in the face of early signs of trouble.
Mr Regling said financial institutions and their players find it 'hard to de-couple' because if one breaks away from a particular dynamic or pattern, it will lose market share.
He said, for example, if a bank sees a risk but its competitors choose to ignore it, then that bank will play the game, afraid that if it does not, it alone will fall.
Mr Regling said for this reason there is a very strong role for the public sector. He said the public sector had to set the incentives and the framework in which the market participants can operate.
Mr Regling also said Asia got through the crisis better than that west.
He said this was because in India for example, the banks did not buy products they did not understand, and that they did not allow their banks to do off-balance sheet transactions.
