Economia

Has Financial Development Made the
World Riskier?
Raghuram G. Rajan

Introduction
In the last 30 years, financial systems around the world have undergone revolutionary change. People can borrow greater amounts at
cheaper rates than ever before, invest in a multitude of instruments
catering to every possible profile of risk and return, and share risks
with strangers from across the globe.Have these undoubted benefits
come at a cost? How concerned should central bankers and financial
system supervisors be, and what can they do about it? These are the
issues examined in this paper.
Consider the main forces that have been at work in altering the financial landscape. Technical change has reduced the cost of communication
and computation, as well as the cost of acquiring,processing, and
storing information. One very important aspect of technical change has
been academic research and commercial development. Techniques
ranging from financial engineering to portfolio optimization, from
securitization to credit scoring, are now widely used. Deregulation has
removed artificial barriers preventing entry, or competition between
products, institutions, markets, andjurisdictions. Finally, the process of
institutional change has created new entities within the financial sector
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such as private equity firms and hedge funds, as well as new political,
legal, and regulatory arrangements.
These changes have altered the nature of the typical transaction in
the financial sector, making it more arm’s length and allowing broaderparticipation. Financial markets have expanded and become deeper.
The broad participation has allowed risks to be more widely spread
throughout the economy.
While this phenomenon has been termed “disintermediation”
because it involves moving away from traditional bank-centered ties,
the term is a misnomer. Though in a number of industrialized countries individuals do not deposit a significantportion of their savings
directly in banks any more, they invest indirectly in the market via
mutual funds, insurance companies, and pension funds, and indirectly in firms via (indirect) investments in venture capital funds,
hedge funds, and other forms of private equity. The managers of these
financial institutions, whom I shall call “investment managers” have
displaced banks and“reintermediated” themselves between individuals and markets.
What about banks themselves? While banks can now sell much of
the risk associated with the “plain-vanilla” transactions they originate,
such as mortgages, off their balance sheets, they have to retain a
portion, typically the first losses. Moreover, they now focus far more
on transactions where they have a comparative advantage, typicallytransactions where explicit contracts are hard to specify or where the
consequences need to be hedged by trading in the market. In short,
as the plain-vanilla transaction becomes more liquid and amenable to
being transacted in the market, banks are moving on to more illiquid
transactions. Competition forces them to flirt continuously with the
limits of illiquidity.
The expansion in the variety ofintermediaries and financial transactions has major benefits, including reducing the transactions costs
of investing, expanding access to capital, allowing more diverse opinions to be expressed in the marketplace, and allowing better risk

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sharing. However, it has potential downsides, which I will explore in
this paper. This focus is notmeant to minimize the enormous upsides
that have been explored elsewhere (see, for example, Rajan and
Zingales, 2003, or Shiller, 2003), or to suggest a reversion to the days
of bank-dominated systems with limited competition, risk sharing, and
choice. Instead, it is to draw attention to a potential source of concern
and explore ways the system can be made to work better.
My main...