Financial Crisis and Separation of Markets

Several financial crises over the past three decades, especially the financial crisis of 2007, have caused revision in the literature of liberalization and deregulation of financial markets. In the Present Study, by surveying the theory of classical dichotomy and its critiques, the notion of separation between financial and real markets has been introduced. The existence and expansion of this separation will lead to financial crises.This separation which results in divergence between nominal and real values, occurs when the performance of financial market is not based on that of the real sector. The expansion of this separation and detachment of nominal values of financial assets from their return stream in the real sector generate shortly, motivate easily profitable opportunities which intensify speculative motives in financial markets. In this situation, a large amount of money will be transfered from the real sector of economy to the financial markets, and as a result, asset price bubbles are created. With inflating price bubbles, the financial crises are more likely to happen due to the burst of bubbles and the fall of asset prices.
In order to identify this separation, the price-earning ratio index has been used. The results indicate that the separation index is increasing during the preceding periods of financial crises. Considering the factors which cause and expand the separation between financial and real sectors of economy, it is essential to reestablish regulations and mechanisms of financial markets in a way that reduces this separation and hence reduces financial crises.