Financial Shocks, Financial Stability and Irrationality in Decision Making

Course Leader: Dr Nataliia Versal | Dr Vasyl Erastov

Home Institution: Taras Shevchenko National University of Kyiv, Ukraine

Course pre-requisites: skills in MS Office; basic statistical skills; basic knowledge of financial system functioning

Course Overview
Uncertainty, an integral characteristic of the financial system functioning, can lead to the emergence of economic and financial shocks, that can become the causes of the unfolding of crises, which was demonstrated by the global financial crisis. This uncertainty becomes the reason for the need to adapt to new conditions that arise in the financial system due to political, economic, social or other circumstances. Financial shocks in most cases threaten financial stability, and therefore there is an urgent need to take actions that can mitigate the effects of financial shocks.
This course highlights approaches to identifying and assessing financial shocks, the conceptual foundations of financial stability and financial soundness, the features of the financial system regulation and its role in overcoming financial crises, the main characteristics of the financial crises at the global and local levels and ways to overcome them. Besides, given the fact that the occurrence of financial shocks is caused, among other things, by the irrational behavior of economic agents, attention will be focused on their behavioral aspects and patterns as subjects of the financial market. Cognitive biases, decision making in the face of uncertainty, and the theory of diffusion of innovations will help to understand a significant part of the processes on modern financial markets. and scikit-learn libraries.

Learning Outcomes
By the end of this course students should:
Be able to:
1. Recognize main financial shocks and define financial crises in national economies.
2. Interpret main financial soundness indicators and their trends.
3. Assess the implication and effectiveness of different instruments in financial distress curbing.
4. Understand the main differences between classical economic theories and real-life economic actors behavior                                 Will find out:
1. How behavioral and neural discrepancies affect decision making process.
2. What the main behavioral and economic background of financial shocks and why cognitive biases and cognitive dissonance are so important to understand.
Will strengthen:
1. Skills in decision making in face of uncertainty.
2. Communication skills.
3. Confidence intervals: construction of intervals by using simulations in Python.
4. Teamwork skills.
9. Problem solving skills.

Course Content

  • Financial Shocks & Financial Crises
    • origins and types of financial shocks
    • causes of different types of financial crises
    • interrelation and contagion
    • financial crises resolution
  • Financial Stability & Macroprudential Regulation
    • financial stability issues
    • financial soundness indicators
    • main points of macroprudential regulation
    • shadow banking system
  • Irrationality in Decision Making
    • origins of behavioral theory
    • comparison of classical and behavioral theories
    • decision making process in face of uncertainty
    • cognitive biases
    • diffusion of innovations theory

Instructional Method
Lectures&seminars, interactive teaching, discussions, case studies, supporting videos, collaborative teamwork, poster presentation, behavioral experiments.

Required Course Materials
Facilities: laptops, Internet connection, multimedia projector.
Required readings and useful links:
1. Kindleberger C. P. Manias, panics, and crashes: a history of financial crises. New York: John Wiley & Sons, 2000. 290 p.
2. Lynn S., Wormwood J., Barrett L., Quigley K. Decision making from economic and signal detection perspectives: development of an integrated framework. URL: https://www.frontiersin.org/article/10.3389/fpsyg.2015.00952.
3. McCoy P. The moral hazard implications of deposit insurance: theory and evidence. URL:https://www.imf.org/external/np/seminars/eng/2006/mfl/pam.pdf.
4. Minsky H. P. The financial instability hypothesis. Working Paper # 74. Jerome Levy Economics Institute of Bard College. May 1992. 10 p. URL: http://www.levyinstitute.org/pubs/wp74.pdf.
5. Reinhart C. M., Rogoff K. S. Recovery from financial crises: evidence from 100 episodes. American Economic Review: Papers & Proceedings. 2014. № 104(5). P. 50–55.
6. Schinasi G. Defining financial stability. IMF Working Paper. WP/04/187. URL: https://www.imf.org/en/Publications/WP/Issues/2016/12/31/Defining-Financial-Stability-17740.
7. Financial Soundness Indicators and the IMF. URL: https://www.imf.org/external/np/sta/fsi/eng/fsi.htm.
8. 2008 Financial Crisis: The Causes and Costs of the Worst Crisis Since the Great Depression. URL: https://www.thebalance.com/2008-financial-crisis-3305679.
9. How To Have Users Spread Your Innovation Like Wildfire. URL: https://www.smashingmagazine.com/2015/01/how-to-have-users-spread-your-innovation-like-wildfire/
10. The Cognitive Biases Tricking Your Brain. URL: https://www.theatlantic.com/magazine/archive/2018/09/cognitive-bias/565775.

Assessment

  • Team project (40%)
    • Poster presentation: 'Financial crisis: how different was it in our countries?'
  • Essay (25%)
    • 'Humans VS Econs'
  • Quiz (15%)
    • Team based quiz 'Financial Instability and Behavioral Theories'
  • Final Test (20%)
    • Tests
    • True/False statements
    • Critical thinking task