“Sharpen your Perception” Not long ago global economy fashioned out a supposedly golden adage- “Globalization and unification of the global financial markets is a sure shot way to economic prosperity!” Fast forward to 2008 and subsequent period, what we witnessed were perils of this golden rule. Markets and economies around the world fell (and some are still falling) as stack of cards. Tsunami of the capital inflows is perhaps the biggest concern of emerging markets. The ones who emerged unscathed from this fury are those who chose not to follow golden adage blindfolded. So, is our golden adage losing its sheen, or was it not golden in the first place?
During the past two decades, financial markets around the world have become increasingly interconnected. Financial globalization has broughtconsiderable benefits to national economies and to investors and savers, but it has also changed the structure of markets, creating new risks andchallenges for market participants and policymakers.THREE decades ago, a manufacturer building a new factory would probably have been restricted to borrowing from a domestic bank. Today it has manymore options to choose from. It can shop around the world for a loan with a lower interest rate and borrow in foreign currency if foreign-currency loansoffer more attractive terms than domestic-currency loans; it can issue stocks or bonds in either domestic or international capital markets; and it can choosefrom a variety of financial products designed to help it hedge against possible risks. It can even sell equity to a foreign company.What exactly is this Financial Globalization?Financial globalization is defined as an amalgamation of domestic financial system of a particular country with the international organizations as well asfinancial markets. Massive growth have been noticed in global economy in the last couple of years, and in the field of technology, more precisely intransport and communications there was a silent revolution which made the globalization of finance an obvious choice. The International Monetary Fund(IMF) and World Bank are the two international institutions of finance which were set up to endorse world trade to keep up with the growth of FinancialGlobalization.Let’s have a look at how financial globalization occurred, the form it is taking, its benefits and the new risks and challenges it has generated.During the mid-1970s, the emerging market economies did not experience much of cross-country financial flows. The rate improved during 1980s and1990s, while in the year 1997 it reached its best. But then it had declined rapidly due to economic and financial catastrophe of the Asian and Russiancountries and gradually global capital flows was completely reduced. Instead, in the early 1990s, Financial Globalization inflated noticeably and capitalfrom developed countries to the developing countries started flowing in. From 1973 to 2005, the rate of world trade increased at a great deal. Itcontinues to grow, and in the year 2005, the GDP of world hit 42%.
What has driven the globalization of finance?The four important factors that stand out are:• Advances in information and computer technologies have made it easier for market participants and country authorities to collect and process the information they need to measure, monitor, and manage financial risk; to price and trade the complex new financial instruments that have been developed in recent years; and to manage large books of transactions spread across international financial centers in Asia, Europe, and the Western Hemisphere.• The globalization of national economies has advanced significantly as real economic activity—production, consumption, and physical investment—have been dispersed over different countries or regions. Today, the components of a television set may be manufactured in one country and assembled in another, and the final product sold to consumers around the world. New multinational companies have been created, each producing and distributing its goods and services through networks that span the globe, while established multinationals have expanded internationally by merging with or acquiring foreign companies. Many countries have lowered barriers to international trade, and cross-border flows in goods and services have increased significantly. World exports of goods and services, which averaged $2.3 billion a year during 1983-92, have more than tripled, to an estimated $7.6 billion in 2001. These changes have stimulated demand for cross-border finance and, in tandem with financial liberalization, fostered the creation of an internationally mobile pool of capital and liquidity.• The liberalization of national financial and capital markets, coupled with the rapid improvements in information technology and the globalization of national economies, has catalyzed financial innovation and spurred the growth of cross-border capital movements. The globalization of financial intermediation is partly a response to the demand for mechanisms to intermediate cross-border flows and partly a response to declining barriers to trade in financial services and liberalized
rules governing the entry of foreign financial institutions into domestic capital markets. Global gross capital flows in 2000 amounted to $7.5 trillion, a fourfold increaseover 1990. The growth in cross-border capital movements also resulted in larger net capital flows, rising from $500 billion in 1990 to nearly $1.2 trillion in 2000.• Competition among the providers of intermediary services has increased because of technological advances and financial liberalization. The regulatory authorities in many countries have altered rules governing financial intermediation to allow a broader range of institutions to provide financial services, and new classes of nonbank financial institutions, including institutional investors, have emerged. Investment banks, securities firms, asset managers, mutual funds, insurance companies, specialty and trade finance companies, hedge funds, and even telecommunications, software, and food companies are starting to provide services similar to those traditionally provided by banks.In a nutshell, Financial Globalization has brought in loads of advantages that the world is enjoying today: • Enhanced capital flow in each and every country with which a country may always remain prepared to counter any financial crisis. • The capital flows between nations increase which causes well-organized world allocation of money. • Improved living standards of the people.Simply putting, Financial Globalization is the safeguard to defend against national shocks, and an excellent system for more efficient global allocation of resources.Though the globalization of trade has brought about some benefits but we cannot neglect the arguably serious costs. The benefits of globalization of finance are suspectin view of the recent global financial crisis. Examining closely the factors behind the recent crisis draws attention to the following points: • The sources of the current crisis are mainly international financial centres while economies with a significant domestic bias in finance and emphasis on retail banking,, such as perhaps Canada and Australia, are less affected by the crisis. It is also noteworthy that those countries which were cautious in integrating their economies with global finance, such as China and India, are performing well, on all accounts, both in pre-crisis and post crisis. • Almost all actions to manage the crisis have been at national level, as part of fire-fighting operations while the stimulus was coordinated the exit so far, however, is characterized by some countries, like Australia and India, initiating the process and not the others so far. • There have been many initiatives for revamping regulatory structures polices and approaches in several countries, especially in US, UK and Europe, but there are legitimate differences within each of them to agree on the appropriate framework for the future. No doubt, there has been some progress in financial stability board on some general aspects of regulations, to be adopted voluntarily in all jurisdictions. An interesting issue is the scope for and limits to agreements on a global framework for financial regulation at a time when fundamental differences persist on such a framework at national levels in jurisdiction of major global players.
With these broad observations, it is useful to proceed to some specific aspects of financial regulation and pursue the serious business of asking the rightquestions, keeping in view the crisis and the current debates on the future environment of global finance and global financial regulation. The fundamental issueis that globalization of finance requires globalization of monetary policy, which, in turn, requires global coordination of fiscal policy. But fiscal authority is theauthority of an independent government. And ultimately a national government is responsible to its people. And it has legitimacy. On the other hand, globalarrangements aren’t an authority. That’s going to be the biggest problem in the next few years.But can a globalized finance or globally coordinated financial regulation help us? Suppose we had this, what would have been that regulation framework? Itwould have been dominated by the US and the UK, and you’d have had the wrong model for the whole world. From the US’ point of view, a globally integratedfinance is advantageous. There are some merits though. Markets are efficient when they are competitive. Are global financial markets competitive? There areonly two credit rating agencies that dominate the world and both are in the US, controlled by a few people, working for profit. There are only two large businessnews agencies that dominate the news. Is that competitive? There’s only one currency—the US dollar—that dominates the world of finance. Nobody cancompete easily with the dollar as a reserve currency. And there are no rules for the game—how many dollars should be made available globally? So, where is thecompetitive financial market? These are fundamental issues. We shouldn’t blindly believe in the efficiency of global financial markets. It doesn’t exist.In the future also, having a single global model, in the belief that global coordination is good, is dangerous. There are two types of trusts involved. One, to thinkthere’s some intellectual capacity to know what’s best for the whole world. Can anyone actually have that kind of intellectual capacity? Second, to think that aglobal agreement will objectively reflect what is good.A global agreement is a political process, which may produce sub-optimal solutions, for which everybody has to pay a price. Financial globalization hasapproached at crossroads: one way leads to the free way with unified financial economy and the other is beset with checkpoints to handle repercussions ofunabated globalization drive. Choose your way!
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