The Global Financial Crisis—What Drove The Build-Up?

This paper investigates empirically three potential drivers of financial imbalances ahead of the global financial crisis: rising global imbalances (capital flows); loose monetary policy; and inadequate supervision and regulation. We perform panel data regressions for OECD countries from 1999 to 2007 to explore the relative importance of these factors, as well as the extent to which they might have interacted in fuelling the build-up. We find that the build-up of financial imbalances was driven by capital inflows and an associated compression of the spread between long and short rates. The effect of capital inflows on the build-up was amplified where the supervisory and regulatory environment was relatively weak. In contrast, differences in monetary policy did not significantly affect differences across countries in the build-up of financial imbalances ahead of the crisis.