Even the textbook explanation of finance makes a distinction between “real investment” and “financial investment.” [see Samuelson p. 418]

The term “financialization” has been coined to describe a fundamental change in the economy over the last 50 years.[ see Palley] It has been variously defined, but in its broadest sense it “refers to the increasing importance of finance, financial markets, and financial institutions to the workings of the economy.” Working from this definition, Gerald F. Davis and Suntae Kim of the Ross School of Business at the University of Michigan provide a helpful overview not only of the increasing importance of finance but of the causes and consequences of financialization in a paper entitled “Financialization of the Econonmy.” They emphasize that ”the fundamental feature of financialization is a shift from financial institutions to financial markets,” and see the ability to “securitize” loans as the key to this shift.

The issue with securitization of loans is the effect it has on financial institutions and the risks it creates for catastrophic financial crises. First of all the bank making the loan may be more likely to focus on pocketing the origination fees rather than validating the soundness of the loan. The risk the borrower will default is just passed along to some other investors who know even less about the borrower than the bank did. Prior to the 2007-2008 crises banks had been under some pressure from government agencies to make more loans available to lower class or minority borrowers. The introduction of variable rate mortgages had made it possible for them to offer loans to borrowers who might not otherwise have been approved. The ability to pass the risk along to others encouraged them to focus more on their own profits and obviously tempted them to cheat on the loan approval process in one way or another. With no one policing the securitization process, bad mortgages got packaged along with sound mortgages and all were regarded as sound investments. It was virtually impossible for an investors buying a mortgage backed security to know who the home owners were. All the investors knew was that they were getting a better return on a bond that had passed muster with a rating agency than they might be able to get elsewhere.

Financialization is also characterized by the an increasing emphasis on shareholder value which has in turn led to the stagnation of wages and the increasing disparity in wealth. Mainstream economics attempts to justify the increasing importance of financial markets as promoting efficiency in various ways. At best it offers the possible regulation of financial markets as a way to counter the risks posed by financialization and fails to address the underlying conception of money which has given rise to financial markets in the current the economic system.

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