How does financial integration today
differ from that of a century ago?
Martin Wolf, Chief Economics
Commentator, Financial Times
Leverhulme Centre for Research on Globalisation and
Economic Policy, School of Economics, Nottingham University
April 30th, 2003
Financial integration then and now
• Why is financial integration so controversial?
• How has financial integration evolved?
• What are the big differences between the financial
globalisation of the late 19th century and today’s?
• What are the big issues, especially for developing
countries?
2
1. Why is financial globalisation so controversial?
• International capital flows are unstable and associated
with crises
• They are also associated with constraints on policy
makers
• This is the “trilemma”: one can have only two of capital
mobility, a fixed exchange rate and domestic monetary
autonomy
• Governments want all three. Since they cannot do so,
the history of the past 120 years has been one of big
shifts in the two they have chosen
3
1. Why is financial globalisation so controversial?
NET PRIVATE CAPITAL FLOW TO DEVELOPING COUNTRIES
($bns)
$350.0
$300.0
$250.0
$200.0
$150.0
$100.0
$50.0
4
2003f
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
1989
1988
1987
1986
1985
1984
1983
1982
1981
1980
2002f
Source: IIF
1979
1978
$0.0
1. Why is financial globalisation so controversial?
THE UPS OF EQUITY INVESTMENT IN DEVELOPING COUNTRIES ($bns)
$180.0
$160.0
$140.0
$120.0
$100.0
$80.0
$60.0
$40.0
$20.0
$0.0
f
f
78 979 980 981 982 983 984 985 986 987 988 989 990 991 992 993 994 995 996 997 998 999 000 001 02 03
9
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
2
2
20 20
Source: IIF
5
1. Why is financial globalisation so controversial?
COMPOSITION OF EQUITY INVESTMENT IN DEVELOPING COUNTRIES ($bn)
$180.0
$160.0
$140.0
$120.0
$100.0
$80.0
$60.0
$40.0
$20.0
$0.0
-$20.0
1990
Source: IIF
6
1991
1992
1993
1994
1995
1996
Net direct investment
1997
1998
1999
Net portfolio investment
2000
2001
2002f
2003f
1. Why is financial globalisation so controversial?
UPS AND DOWN OF NET LENDING ($bns)
$250.0
$200.0
$150.0
$100.0
$50.0
$0.0
-$50.0
f
f
78 979 980 981 982 983 984 985 986 987 988 989 990 991 992 993 994 995 996 997 998 999 000 001 02 03
9
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
2
2
20 20
Source: IIF
7
1. Why is financial globalisation so controversial?
COMPOSITION OF NET LENDING ($bns)
$250.0
$200.0
$150.0
$100.0
$50.0
$0.0
-$50.0
-$100.0
f
f
78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03
19 19 19 19 19 19 19 19 19 19 19 19 19 19 19 19 19 19 19 19 19 19 20 20 20 20
Source: IIF
8
Net commercial banks
Net nonbanks
1. Why is financial globalisation so controversial?
UPS AND DOWNS OF CURRENT ACCOUNT IN DEVELOPING COUNTRIES ($bns)
$60.0
$40.0
$20.0
$0.0
-$20.0
-$40.0
-$60.0
-$80.0
-$100.0
-$120.0
f
f
78 979 980 981 982 983 984 985 986 987 988 989 990 991 992 993 994 995 996 997 998 999 000 001 02 03
9
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
1
2
2
20 20
9
1. Why is financial globalisation so controversial?
THE IMPACT OF CRISES ON CURRENCIES
(exchange rate to the dollar)
120.0
100.0
80.0
60.0
40.0
20.0
Ja
nM 95
ay
-9
Se 5
p9
Ja 5
nM 96
ay
-9
Se 6
p9
Ja 6
nM 97
ay
-9
Se 7
p9
Ja 7
nM 98
ay
-9
Se 8
p9
Ja 8
nM 99
ay
-9
Se 9
p9
Ja 9
nM 00
ay
-0
Se 0
p0
Ja 0
nM 01
ay
-0
Se 1
p0
Ja 1
nM 02
ay
-0
Se 2
p0
Ja 2
n03
0.0
Argentinian Peso
10
Brazilian Real
Indonesian Rupiah
South Korean Won
1. Why is financial globalisation so controversial?
THE IMPACT OF CRISES
(year-on-year growth, per cent)
15.0
10.0
5.0
0.0
-5.0
-10.0
-15.0
1996
1997
1998
1999
Argentina
11
2000
Indonesia
2001
Korea
2002
2003
1. Why is financial globalisation so controversial?
• Extraordinary instability in capital flows
• Leads to many twin crises
• These crises are costly
12
2. How has integration evolved?
• The three periods of international economic integration
• The rise, decline and rise of capital market integration
13
2. How has integration evolved?
PERFORMANCE IN THE THREE MOST SUCCESSFUL PHASES
IN THE CAPITALIST EPOCH
(annual average compound growth rate of GDP per head)
1950-73
1973-98
1870-1913
Golden Age
Neo-Liberal Order
Liberal Order
Western Europe
4.08
1.78
1.32
Western Offshoots
2.44
1.94
1.81
Japan
8.05
2.34
1.48
Resurgent Asia
2.61
4.18
0.38
Advanced capitalist
2.93
1.91
1.36
Faltering Economies
2.94
-0.21
1.16
World
2.93
1.33
1.30
and resurgent Asia
Source: Maddison (2001)
14
2. How has integration evolved?
Source: Obstfeld and Taylor
FOREIGN ASSETS OVER WORLD GDP (per cent)
70.0%
62.0%
60.0%
49.0%
50.0%
40.0%
36.0%
30.0%
25.0%
19.0%
20.0%
18.0%
11.0%
10.0%
8.0%
7.0%
5.0%
6.0%
1945
1960
0.0%
1870
15
1900
1914
1930
1938
1980
1985
1990
1995
2. How has integration evolved?
GROSS VALUE OF FOREIGN CAPITAL STOCK IN DEVELOPING COUNTRIES OF
AFRICA, ASIA AND LATIN AMERICA, 1870-1998
$3,500.0
35.0%
$3,030.7
$3,000.0
30.0%
$2,500.0
25.0%
Source: Maddison (2001)
$2,000.0
20.0%
$1,500.0
15.0%
$1,000.0
10.0%
$495.2
$500.0
5.0%
$235.4
$63.2
$40.1
$0.0
0.0%
1870
1914
Stock in 1990 prices ($bn)
16
1950
1973
Stock as share of developing country GDP
1998
2. How has integration evolved?
CORRELATION BETWEEN DOMESTIC INVESTMENT AND SAVINGS SINCE
1870
Source: Taylor (1996)
1.2
1.0
0.8
0.6
0.4
0.2
0.0
187079
17
188089
189099
190009
191019
192029
193039
194049
195059
196069
197079
198089
2. How has integration evolved?
CAPITAL FLOWS SINCE 1870
(average absolute value of current account as per cent of GDP)
UK
Argentina
Australia
Canada
France
Germany
Italy
Japan
18701889
4.6
0.7
18.7
8.2
7.0
2.4
1.7
1.2
0.6
18901913
4.6
1.0
6.2
4.1
7.0
1.3
1.5
1.8
2.4
19191926
2.7
1.7
4.9
4.2
2.5
2.8
2.4
4.2
2.1
19271931
1.9
0.7
3.7
5.9
2.7
1.4
2.0
1.5
0.6
19321939
1.1`
0.4
1.6
1.7
2.6
1.0
0.6
0.7
1.0
19471959
1.2
0.6
2.3
3.4
2.3
1.5
2.0
1.4
1.3
19601973
0.8
0.5
1.0
2.3
1.2
0.6
1.0
2.1
1.0
19741989
1.5
1.4
1.9
3.6
1.7
0.8
2.1
1.3
1.8
19891996
2.6
1.2
2.0
4.5
4.0
0.7
2.7
1.6
2.1
Source: Taylor (1996)
18
USA
2. How has integration evolved?
• The stock of foreign capital is now higher than ever
before, in relation to world GDP
• Most of the foreign capital is short term
• Reliance on domestic capital also seems greater than
before 1914
• Net capital flows across borders are relatively small
19
3. What are the big differences?
• Shift from UK to US as hegemon and US move into
deficit
• Marginalisation of developing countries
• Rise of multi-nationals
• Frequency of crises
• Move to floating exchange rates (and the meaning of
the euro)
20
3. What are the differences? The hegemon
SHARE OF UK AND US ASSETS IN WORLD FOREIGN ASSETS
(per cent)
90.0%
80.0%
70.0%
60.0%
50.0%
40.0%
30.0%
20.0%
10.0%
0.0%
1825
1855
1870
1900
1914
1930
1938
UK assets
21
1945
US assets
1960
1980
1985
1990
1995
3. What are the differences? The hegemon
• The UK’s foreign assets were three times GDP in 1914
• The US’s net foreign liabilities are a quarter of GDP
today
• The UK was the world’s largest creditor
• The US is the world’s largest debtor
22
3. What are the differences? Emerging markets
Source: Obstfeld & Taylor
THE MARGINALISATION OF DEVELOPING COUNTRIES
(liabilities as a share of world liabilities)
50.0%
45.0%
40.0%
35.0%
30.0%
25.0%
20.0%
15.0%
10.0%
5.0%
0.0%
1900
23
1914
1938
1960
1980
1990
1995
3. What are the differences? Emerging markets
DID CAPITAL FLOW TO POOR COUNTRIES?
Share of World Stock of Foreign
Capital
50%
45%
40%
35%
30%
25%
20%
15%
10%
5%
0%
less than 20 per cent
20-40 per cent
40-60 per cent
60-80 per cent
per capita incom e range of receiving regions (US = 100)
Source: Maurice Obstfeld & Alan Taylor
24
1913
1997
more than 80 per cent
3. What are the differences? The rise of MNCs
RISE AND RISE OF MULTI-NATIONAL COMPANIES
(Selected Indicators of FDI and International Production –
billions of dollars and percentages)
1982
FDI inward stock
1999
594
1,761
4,772
2,462
5,503
13,564
Gross product of
foreign affiliates
565
1,419
3,045
Exports of foreign
affiliates
637
1,165
3,167
GDP at factor cost
10,611
21,473
30,061
Exports of goods
and non-factor
services
2,041
4,173
6,892
Sales of foreign
affiliates
Source: UN (2000)
25
1990
3. What are the differences? Crises
FREQUENCY OF CRISES IN INDUSTRIAL COUNTRIES
50
44
45
40
36
35
29
30
25
21
21
20
15
13
11
10
5
12
9
6
4
0
2
1
7
0
0
Banking Crises
Source: Bordo & Eichenreen
26
Currency Crises
1880-1913
1919-1939
Tw in Crises
1945-1971
1973-1997
All Crises
3. What are the differences? Crises
FREQUENCY OF CRISES IN EMERGING MARKET ECONOMIES
95
100
90
80
70
57
60
50
40
30
20
10
21
17
11
7
16
6
0
25
13
17
8
3
3
1
0
Banking Crises
Source: Bordo & Eichengreen
27
Currency Crises
1880-1913
1919-1939
Tw in Crises
1945-1971
1973-1997
All Crises
3. What are the differences? Crises
• Crises are more frequent, but not more severe
• They are more than twice as prevalent as before
• The chief reason, suggests Eichengreen and Bordo
has been the fragility of soft currency pegs (NBER
Working Paper 8716)
• Banking problems were rarer before 1914 – so there
were fewer twin crises – because exchange rates did
not collapse
28
3. What are the differences? Exchange rates
Resolution of trilemma - countries choose to sacrifice
Activist policies Capital mobility Fixed exchange rate
Notes
Gold standard Most
Few
Few
Broad consensus
Interwar
Few
Several
Most
Capital controls
Bretton Woods Few
Most
Few
Float
Few
Few
Many
Source: Obstfeld and Taylor
29
4. What are the big policy issues?
• Global macro-economics and the US deficit
• Exchange rate regimes - the law of the excluded
middle
• “Original sin” and foreign currency borrowing
• Capital controls and prudential regulation of the
financial system
• Sovereign bankruptcy and debt workouts
30