Financial Globalization: A Challenge to the World

Written by Yajing Tu, GEI Associate

As economy globalization becomes an unstoppable trend around the world, the capital flows cross-border plays an important role in open economies, especially in the recent financial crisis. Financial globalization as a desirable and attainable policy provides worldwide capital transfer, and promotes smooth consumption and output in global market. The global cross-border capital flows rose rapidly since 2000, and achieved the peak ($11.8 trillion) at 2007.

However, it cannot be worse that the global capital flows dropped down to $1.7 trillion in the following two years due to the collapse of U.S. housing and mortgage-backed-securities markets. Although the gap was shrunk gradually from 2009 to 2013, the recovery still needs a lot more time.

The sharp reduction in capital flows was a nightmare for most developing countries. Those developing countries maintain higher marginal production of capital but possess less capital to produce and raise investment in order to expand.  Corporations provide capital to their own production facilities, borrow debt, and issue equity mostly within their country of operation.

Emerging markets, like China, India, Russia and Brazil, which have extremely high marginal productivity, eased the global financial crisis initially but stalled their speedy economy growth during the past 7 years following the crisis to some great extent. With the decreasing capital lending from developed countries, especially from Europe and North America, global capital resources cannot be allocated efficiently. The insufficient capital flows further blocks the healthy and sustainable economic development among developing countries.

Financial globalization seems to be an irreversible trend in the future. The benefits for both developed and developing countries are boosting ever deeper financial integration and connection, growing global financial systems and markets, diversifying the risk, and reducing information asymmetries.

Nevertheless, potential risks exist at the same time. Financial globalization integrates the world as one market, leading each country to become more sensitive tor foreign financial market shocks. For example, the relative higher debt ratio and dependence on Chinese exports in the United States will be a terrible problem, if the trade relationship between China and U.S. changes. Unfortunately, based on an interview with Stephen Roach, some of these changes occurred already in recent years. As a result emerging markets become more and more critical and significant for shaping the global financial market.

Today, we are at an inflection point. The fundamental challenge is for every country to stabilize economic development and minimize potential risks relative to financial and economic globalization. The only thing that is fundamentally needed is to facilitate capital flows freely between countries, in order to simulate the global economic recovery and growth. According to the latest global liquidity and capital flow data from CrossBorderCapital, in March 2014, the Global Liquidity Index (GLI) was 53.4, much higher than in 2007. It appears that financial crisis recovery is progressing and robust financial market development is on the way.

References

• Lund, S., Daruvala, T., Dobbs, R., Harle, P., Kwek, J. & Falcon, R., (March, 2013), Financial Globalization: Retreat or Reset? Retrieved from http://www.mckinsey.com/insights/global_capital_markets/financial_globalization

• Schmukler, S. L. (2004), Financial Globalization: Gain and Pain for Developing Countries, Federal Reserve Bank of Atlanta Economic Review, Retrieved from http://www.frbatlanta.org/filelegacydocs/erq204_schmukler.pdf

• Howell, M. J., (March, 2014), Latest Global Liquidity Data (GLI), Retrieved from http://www.crossbordercapital.com/Blog/post/2014/03/12/March-2014-Latest-Global-Liquidity-Data-(GLI).aspx

• Baker, P., (April, 2014), China-US at Critical Turing Point, Says Economist Stephen Roach, Retrieved from http://www.afr.com/p/business/sunday/china_us_at_critical_turning_point_4lErhSrZlvxOQYwTti8gtO