Financial Crisis Containment

Abstract

This Article maps financial crisis containment - extraordinary measures to stop the spread of financial distress - as a category of legal and policy choice. I make three claims.

First, containment is distinct from financial regulation, crisis prevention and resolution. Containment is brief; it targets the immediate term. It involves claims of emergency, rule-breaking, time inconsistency and moral hazard. In contrast, regulation, prevention and resolution seek to establish sound incentives for the long term. Second, containment decisions deviate from non-crisis norms in predictable ways, and are consistent across diverse countries and crises. Containment invariably entails three kinds of choices: choices between wholesale and case-by-case response to financial distress, choices about whether to enforce private contracts and government regulations, and choices about distributing losses from crisis. I illustrate these with case studies from Indonesia in 1997-1998, Japan in 1994-1998, the United States in 1933, Argentina in 2001-2002, and Mexico in 1982. Third, containment measures are costly, but so is failure to distinguish containment from other tasks. Governments use prevention and regulation rhetoric to delay crisis response and to obscure distribution. Once they admit to a crisis, officials may leverage the urgency of containment to secure far-reaching economic reform.

Isolating and mapping containment can help recast well-worn crisis policy debates, and make crisis response more transparent and accountable.

Keywords: Financial crisis, systemic crisis, systemic risk, economic emergency, financial regulation, crisis containment, macroprudential regulation, financial regulation, IMF, central bank, Japan, Indonesia, Argentina, Great Depression, Gold Clause, bankruptcy

JEL Classification: K20, K23, N22, N25, N26, O16, H63, G33, G20, G18, G15, F42, F30