Lesson 4: Global Financial Integration

Global Financial System “During the past two decades, financial markets around the world have become increasingly interconnected. Financial globalization has brought considerable benefits to national economies and to investors and savers, but it has also changed the structure of markets, creating new risks and challenges for market participants and policymakers.” Häusler, Gerd. (2002). The Globalization of Finance. Finance and Development, Vol. 39, No. 1.

What is financial globalization? Financial globalization can be defined as the phenomenon of rising cross-border financial flows. NY Stock ExchangeTokyo Stock Exchange People, companies and governments can buy/sell (trade) financial products (stocks, bonds, currency, etc.) from companies/governments/banks outside their borders. For example, a French citizen can buy stock in Facebook, an American company that went public to investors around the world, or the German government can buy a Brazilian government bond, a certificate issued by the government to raise money. The flow is amount of financial products trading over a specific time period. Cross-border financial flows now amounts to trillions of dollars.

Global Finance Past and Present (Taylor) Capital flow is not a recent phenomenon only. Early 19 th Century international finance dominated by London and Amsterdam and reflected laissez-faire attitudes (little government involvement). Volume of capital was small and mainly in Europe. Global financial markets developed within decades, aided by the telegraph, European settlements worldwide and emergence of gold standard. This global economy imploded after the Great Depression and two world wars and was replaced by the Bretton Wood system, created after World War II to stabilize Europe and prevent another Great Depression. South Bank House built in London in the 1800s

Drivers of Financial Globalization (Häusler) 1) Advances in information and computer technologies: Now it is easier to collect and process information to measure, monitor, and manage financial risk Price and trade complex financial instruments Manage large transaction worldwide

Drivers of Financial Globalization (Häusler) 2. The globalization of national economies Production, consumption, and physical investment is dispersed over countries Global supply chain: parts are created and assembled in factories around the world Many countries have lowered trade barriers and cross- border trade has grown significantly These changes have stimulated demand for cross- border finance & financial liberalization

Drivers of Financial Globalization (Häusler) 3. Liberalization of national financial and capital markets It is easier (less rules and hurdles) for foreign financial institutions (such as banks) to enter domestic capital markets

Drivers of Financial Globalization (Häusler) 4. Competition among the providers of intermediary services Regulatory authorities have changed the rules to allow a broader range of institutions to provide financial services, including entities that are not banks. Examples include: investment banks, securities firms, mutual funds, insurance companies, specialty and trade finance companies, and even telecommunications, software, and food companies

Benefits vs. Risks (Häusler) Benefits associated financial globalizations include: reduced risk better terms for financing for borrowers and lenders greater pool of resources reduced borrowing costs because there is a broader pool of capital National and multilateral organizations, such as the IMF must work together to minimize risks from financial globalization. Risks: now that financial institutions around the world are more inter-connected, a problem in one country will most likely impact many others. Economies around the world have been seriously affected by the financial crisis and slump in activity (year )