Special Issue
NEW INTERNATIONAL FINANCIAL ARCHITECTURE
Guest Editor:
Fariborz Moshirian
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New international financial architecture
Fariborz Moshirian
School of Banking and Finance, the University of New South Wales, Sydney, NSW, 2052, Australia
Abstract
This article highlights some of the main issues in eight articles that were selected from
papers presented at the 14th Australasian Finance and Banking conference held in Sydney
in December 2001. It also analyses some of the factors which are contributing to the
evolution of the financial market from national to regional and subsequently to global
levels. The paper analyses those policies which contribute to the viability of global public
goods and highlights the fact that a global approach and a global system are needed to
ensure that global public goods such as international financial and monetary stability are
in place. The paper argues that a holistic approach is needed in order to ensure that the
new international financial architecture can be fully operational. The paper highlights the
challenges facing international institutions and the need for global financial institutions
with greater influence, which could address the major financial challenges facing the new
millennium.
JEL classification:G15; G25
Keywords: Financial architecture; global financial system; international currency
Tel: +61-2-93585859; fax: +61-2-93856730
E-mailaddress:f.moshirian@unsw.edu.au
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1. Introduction
The 21st century is endowed with many financial opportunities arising from the various
successes of the 20th century, but also faces new financial challenges including
completing some of the unfinished work carried out during the last century. One of the
main factors contributing to economic growth, financial integration and effective
macroeconomic coordination is the existence of sound national as well as international
financial systems.
The twentieth century has witnessed unprecedented development, expansion and
evolution of national and international financial systems. Slow economic growth, high
unemployment, high inflation and regulated financial markets were replaced by economic
growth, low unemployment and gradual deregulation of the financial markets during the
Post War period. The Uruguay round of trade negotiations led to the opening up of
national financial services, significant deregulation of financial markets and acceleration
in the integration of national stock markets. Technological changes and the revolution in
telecommunications have also facilitated and accelerated the integration, deregulation and
expansion of the global financial market. The emergence of the European Union ( EU),
the North America Free Trade Agreement (NAFTA) and the Asia Pacific Economic
Cooperation (APEC), have also accelerated the deregulation of national financial
markets, and the integration of regional financial markets. The discussions, analyses,
policies and directions of international institutions such as the International Monetary
Fund, the Bank for International Settlements and the World Bank have also contributed to
the emergence of an evolving financial system in many parts of the world. A sound
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financial system should have a good regulatory environment and an adequate incentive
structure. Transparency in fiscal and monetary policies, compliance with
banking
supervision and standards for insurance, the securities market, payment systems, good
corporate governance and insolvency regimes are amongst those ingredients which
ensure sustained and sound financial systems.
A sound financial system will also ensure that the benefits of globalisation will be reaped
by all participants in the financial markets. There are a number of tools that should be
applied in order to ensure a healthy financial system including macroprudential analysis,
stress tests and scenario analyses and improved methods for judging the observance of
standards and codes. The financial system in the 21st century should provide a financial
environment that is conducive to contributing to further global financial integration as
well as better macroeconomic coordination. The call for and action undertaken by the
IMF and the World Bank towards an international financial architecture are steps in the
right direction. However, the widening gap between the rich and poor countries, the
aspiration of nations to realise the objectives of the 2015 Millennium Global Action, and
the threat of insecurity and uncertainty about world peace require a much more
comprehensive approach to the issues surrounding the global financial system, finance
for world peace and integration of global financial, legal and political systems. The
purpose of this paper is to analyse some of the key issues affecting the global system and
argue for a comprehensive approach to an international financial architecture rather than
dealing with financial issues in isolation from the other global issues. To this end and
following the work of Stiglitz (1999), section 2 will discuss the evolution of the financial
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and economic system, section 3 will discuss the concept of global public good and the
international financial system, section 4 will deal with global financial stability and an
international single currency, section 5 will deal with global financial system in a
dynamic context and section 6 will review the papers selected for this special issue.
2. The evolution of the financial and economic system
Since the first telegraph was sent, between Europe and the US, on 23 May 1844, the
world’s
financial
system
has
witnessed
unprecedented
deregulation,
global
communication and integration. While there were not many independent nations in the
19th Century, the post war events after the world wars of the 20th century lead to the
emergence of political independence for many peoples and now the number of
independent nations, (which amounts to more than 200) is a testimony to the significant
changes that the modern world has witnessed. The emergence of national systems and
national governments were associated with the establishment of national financial
systems which were part of a national government and part of the various ministries of
national government. The increase in efficiency, transparency, free flow of information
and deregulation in some countries were all part of the steps required to make a particular
national financial system more efficient and more accountable for economic growth,
resulting in more investment and savings. At the same time, the nationalism and “closed
economy” policies of the 1930s were replaced by a willingness of nations to open up
trade and also establish some international institutions such as the UN, the IMF and the
World Bank to address some of the increasing number of international issues facing all
nations. These international institutions have been evolving, changing and being refined
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as the world economy has become more interdependent and improved telecommunications and other factors have enhanced the process of globalisation. The
formation of the Common Market in Europe paved the way for the establishment of
regionalism in Europe and now regionalism is seen in other parts of the World, for
instance, under the auspices of APEC and NAFTA. The establishment of the European
Union, a single European currency, and institutions such as the European Parliament, the
European Court of Justice and the European Central Bank are a demonstration of the
international evolution of society since the 19th Century and the possibility that
nationalism and now regionalism could lead to a sound, all embracing and binding global
system. The work of the Bank for International Settlements and other international
financial institutions is assisting the international community to see that these institutions
can facilitate the process of globalisation and the emergence of a sound global financial
system. It appears that despite differences of opinion regarding the costs and benefits of
globalism, the most significant issues facing the global economy and the financial
markets are how one can best ensure that the benefits of globalism
reach all the
inhabitants of this planet and how everyone should shoulder his/her responsibility in
ensuring that those institutions and laws which should emerge to safeguard the global
system and global interests are going to function effectively for the best interests of all
people of the world.
3. Global public goods and the international financial system
Globalisation and increasing interdependence amongst all the nations of the world have
allowed people to recognise better that there are some key factors which affect the
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welfare and interest of all people and nations and their absence could harm both
developed and developing countries. Some of these issues are: sustainable development,
world peace and security, sound global environmental policies, international trade, stable
monetary systems, sound financial institutions, universal education and health, sound and
all embracing technological changes and effective and universally accessible
telecommunication.
It is clear that by definition, global public good requires global recognition, ownership,
respect, commitment and naturally global institutions in order to safeguard and protect
these emerging issues that form global public good. It appears that the IMF and other
institutions identified
a few global public goods and yet, the current international
institutions are inadequate to provide the required leadership, direction and engagement
of all nations to safeguard these public goods. For instance, according to the IMF,
monetary and financial stability is a global public good and yet the IMF is not the right
institution to provide the required accountability and leadership nor are the current
national and international policies and instruments sufficient to ensure that all nations
will commit themselves to a global system. Similarly, world peace and security is a
global public good and yet the UN and its agencies with all their good intentions cannot
provide the conditions for sustainable and binding peace and security. The education and
health of all people is another global public good and yet the current international
institutions in their present forms will be unable to address this issue, despite the
commitment of all the nations for 2015 Millennium Development Goals.
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The evolution of many societies associated with the industrial revolution, the information
revolution and integration of financial and economic markets have assisted nations to see
that their national interest can best be served when regional or global interests are also
well protected. It is heartening to see that the IMF has identified a number of issues as
global public goods in an attempt to draw the attention of the nations to the fact that we
can no longer pursue national policies in isolation from the interest of the international
community as a whole. The remarks made by the managing director of the IMF(1999)
that assisting the poor countries is a global public good and hence all the nations,
particularly the developed countries, should shoulder greater responsibility for ensuring
the right environment for the poor countries to fully benefit from the opportunities of
globalisation have become more of a reality following a number of recent international
crises. At the same time, with the current inadequacy of the international institutions,
arrangements and the way nations and people relate to the current international
institutions, the UN target of 0.7 percent of GNP for official development assistance
(ODA) to the developing countries falls short of its achievement for assisting the poor
countries. This implies that regardless of identifying a global public good (ie, assisting
the developing countries, which is linked to the peace and security of the developed
countries) cannot be fully supported or financed as the current global system does not
have an effective global mechanism in place to provide the needed support. According to
the IMF (2002), at the present time, the current level of ODA is only 0.22 percent of
GNP. This short-fall is over $100 billion a year in aid flow. At the same time, due to
market distortion in agriculture, processed food, textiles and clothing and light
manufactured goods, the developing countries cannot compete with the developed
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countries. For instance the US, the EU and Japan spent $200 billion in 2000 on
agriculture subsidies alone. In such an international climate, the difficult task of assisting
the developing countries are given to a few international institutions such as the IMF, the
World Bank and to some extent the UN agencies. However, despite a lot of effort and
good will on the part of these international institutions, these institutions are not either
directly or indirectly elected by people of the world. People of the world do not feel an
ownership or natural affinity toward these isolated international institutions and at the
same time, these institutions do not have mandates which are fully binding by all the
nations of the world and reflecting the aspirations and global interest of all nations and
people. In such an environment, all the efforts of the IMF toward developing a new
international financial architecture including more transparency, accountability and good
governance on the part of the developing countries cannot provide global commitment,
resources and interdependency between the rich and poor countries for sustained
development and improvement in the economic, social and political spheres of these
countries. In other words, all these great ideas and efforts to raise international standards
and to try to assist the developing countries are like building the body of a car without
attempting to install the right engine for the proper use of this car. Furthermore, in the
absence of international accountability, global commitment and responsibility, it would
be likened to a car which can be driven anywhere as the driver wishes, as there are no
rules and regulations to channel the proper use of the motor car. Admittedly, one should
recognise that when the UN called for a New International Economic Order in the 1970s,
the developed countries appreciated the significance of interdependency of nations and
global prosperity much less than they do now. However, in the 21st century, any unbiased
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observer can note that the interest, security, peace and economic gain made by developed
countries will be enhanced and strengthened, if all nations recognise that there are many
issues which are global public goods and hence a globally binding system that could
protect the global interests of all nations can provide the right environment for sustained
development, economic gains for all nations, achievement of the 2015 Millennium
Development Goals and peace and security.
In the context of International Financial Architecture, one may draw some parallels
between the European experience, or the American experience since the formation of the
United States of America in the 19th Century, and the required needs of a global society
in the 21st century. One could well observe that in America, a sound national financial
system was part of, and to some extent a by-product of the recognition and willingness of
the people in America to work together as part of one federal system. Similarly, the
formation of a single currency and the European Central Bank were by-products of the
willingness of all governments in Europe to broaden their vision and their spectrum and
remove all those barriers in the areas of trade, finance, law, technology,
telecommunication, transport etc. which facilitated the emergence of the European Union
which ensured that allegiance to national interest would not prevent its members from
also having allegiance to a greater region (i.e, Europe). In other words, despite the very
good intentions of the IMF and the World Bank regarding the emergence of the new
International Financial Architecture, the interest of all nations including the developing
countries would be better served and more sustainable once all nations of the world agree
to those parameters which will eventually lead to a true global federal system and a
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coherent and interdependent international community which are united and committed in
some key principles defined as global public goods and at the same time different in
many facets of life, culture and arts which are a reflection of the national identities of the
people of the world. In the absence of commitment to a global federal system, it is not
surprising to see that despite all the good intentions and hard work of the IMF and the
World Bank towards successfully implementing the elements of the New International
Financial Architecture, other key national and international factors required to bring
about an environment conducive to the development and economic growth of the
developing countries are either missing or not fully supported by the developed countries.
In the spirit of a global federal system, the present call for debt relief and more trade
opportunities by the IMF cannot by themselves create those fundamental changes which
could bring about a sustainable environment for real transformation of the developing
countries’ social and economic environments.
4. Global financial stability and an international single currency
International financial stability is considered to be a global public good. A number of
steps have been taken by the IMF and the developed countries towards addressing some
of the factors which could assist the stability of the global financial market such as
macroeconomic stability and effective national monetary policies. However, there are far
more important steps that need to be taken in order to ensure that global financial stability
will be sustainable and the world does not witness another Asian currency crisis or
collapse of currency value such as has occurred in Argentina or the like. As part of
establishing sound and all embracing financial and monetary stability, one should
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consider the European experience and reflect on the emergence of the European Central
bank and the European single currency. Indeed, the willingness of those European
countries to set the right environment for the emergence of the European single currency
and the European Central Bank ensured the successful emergence of financial and
monetary stability in Europe. Similarly, at the global level, one should capitalise on the
success of regionalism in Europe, North America and the Asia-Pacific region and set the
financial and monetary parameters at the global level for the emergence of a single
international currency and the World Central Bank. The key issue, as Moshirian (2001)
argued, is the vision and the financial and economic directions to be taken by the
international community to ensure that all nations become part of a global financial
system that they all are going to cooperate with and also be adequately compensated by,
if need be, to ensure that national monetary and financial policies are in tune with global
needs and policies. Naturally, such a level of global cooperation would require other
global institutions to also be established as part of the emergence of a global level of
structure for society, in collaboration with the existing national systems. Institutions such
as a World Parliament (similar to the one currently functioning in Europe) would
facilitate global cooperation, resource mobility and an effective level of integration and
interdependency amongst all the nations of the world. The recent discussion and studies
such as the IMF (2000) and Cooper (2000) indicate that an international single currency
is no longer idealistic but rather it reinforces the fact that an international single currency
is the consequence of and the by product of coordinated global financial and monetary
policies and hence all efforts should be made to ensure that both developed and
developing nations will work together in a global system that ensures that financial
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markets will become more and more integrated and lead to the emergence of an
international single currency. The freeing up of the enormous amount of capital currently
used in the foreign exchange markets for speculative gains, the significant loss to major
corporations through hedging themselves against the currencies fluctuations and stability
and predictability of the direction of interest rates through having a single international
currency will have a profound and dynamic effect on the international financial market
and will significantly increase the level of good investment, stronger economic growth
and employment both in the developed and developing countries.
5. Global financial system in a dynamic context
In the absence of a global system, all the global initiatives proposed or undertaken by the
current international institutions are not appreciated as much as they should be, as they
are mostly seen as secondary to national needs and interests and at the same time, there is
no real ownership of these international institutions nor is there any ownership of the
international community. Admittedly, many international crises and events have
accelerated the awareness of nations that unless the benefits of globalism are reaped by
all people and nations of the World, national security and national interest are threatened.
In other words, nations have realised that, in the age of the information revolution, the
interest of the individual parts will better be served if the interest of the whole is first
protected. National security and national interest are better protected if the global system
is in place and the rights and duties of all nations and people are well defined and
constitutionally protected. In the absence of a global consciousness and a global system,
the worlds resources which are required to provide those key global public goods, for
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world peace, national security and national economic gains, are mainly utilised with a
focus on national interest and hence the needs of the international community as a whole
and the direction and policies of the current international institutions are served as
secondary to the national needs and interests. Despite all the initiatives made by the IMF
and the World Bank to assist in improving and enhancing the capacity and effectiveness
of the financial system in the developing countries including the call for the New
International Financial Architecture, the underlying causes of poverty, deprivation and
inadequate education, health and other opportunities cannot be addressed. Similarly, the
current international institutions are not capable of tackling issues identified by the World
Bank such as corruption, maladministration, lack of democracy and lack of transparency
in some developing countries. In other words, as Moshirian (2000) argued, the current
international institutions are not capable of acting as the required world federal
government which could address all the international needs and requirements of both
developed and developing countries in an increasingly global environment. At the same
time, one should take note the efforts of the Commission on Global Governance (1995)
and their work on Our Global Neighbourhood which promoted an integrated global
system.
There is a very significant body of literature in the area of finance and economic growth
in which, regardless of some controversial issues in that area, it is obvious that a good
financial system and a strong legal system would contribute to economic growth. Studies
which argue for finance-led growth indicate that an effective financial system contributes
to greater economic growth. The recent study by Rousseau and Sylla (2001) indicates
how the emergence of an effective financial system since 1850 in the Dutch Republic,
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England, the US and France was a prerequisite for sound economic growth in these
countries. Roussea and Sylla ( 2001) found a strong correlation between financial sectors
and economic growth over the period 1850 and 1997. They also show that countries with
more sophisticated financial systems are more engaged in trade and are better equipped to
be integrated with other economies. Their findings could be applied to the development
of an integrated global financial system using financial tools such as an international
single currency, a world central bank showing how this can accelerate economic growth,
economic integration and more effective investment and higher productivity at both the
national and the international level. In other words, a sound global financial system is a
global public good and one of the prerequisites for sustained economic growth and global
peace and stability. In order to establish/develop a global financial system, we have to go
beyond the existing international institutions and build, on the basis of the experience and
success of the IMF and the World Bank, those financial institutions which are part of a
global federal system elected and participated in by all the people and nations of the
world. The emergence of such international institutions will pave the way for creating an
environment conducive to effective implementation of financial, economic, political and
social policies which are binding by global agreements and the support of the
international community. In parallel with the national level, in which a sound financial
system is inconceivable without a national government and a strong and responsible
central bank as well as effective and efficient financial, legal, social and educational
institutions, at the global level, the absence of a world central bank, effective and
accountable international financial institutions, binding international legal and financial
laws, an international single currency, a world parliament, global accountability and
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global transparency, global education, global environmental policies and a sound health
system are hindering the international community as well as all nations of the world from
realising their full potential and laying the foundations of sustained economic growth,
peace and security. The absence of strong economic growth and effective development
programs are two of the factors resulting in a high level of unemployment and poverty in
many developing countries. The recent studies such as Laporta et al (2000) which
indicate that a sound national legal system is an important factor for higher investment
and stronger economic growth can be extended to the global level in which the absence
of binding global commercial, financial, environmental, and legal systems as part of the
commitment to a world federal government are hindering humanity from fully realising
its potential and using the world’s resources effectively and allowing all people and
nations to reap the benefits of globalisation. With global financial, environmental, legal
and civil systems in place, as Moshirian (2000) argued, all the current efforts of the IMF
and the World Bank regarding the new International Financial Architecture could be
natural and necessary prerequisites for the establishment of a global financial system.
However, in the absence of a global attitude and global consciousness as well as a
universal mechanism to establish and elect effective global institutions, not only is there
less incentive and accountability on the part of the developing countries to effectively
implement the key recommendations of the IMF for the New International Financial
Architecture but also neither the developed nor the developing countries will reap the
dynamic benefits of a global system which allow for much faster and stronger positive
changes and economic prosperity for all the nations of the world. If the dynamic effects
of the European Union under the Custom Union model, or the formation of the federal
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system in the United States is used as a benchmark, one can see the potential gains to all
the nations of the world, once the binding, all embracing and universal systems are
erected by the people and nations of the world.
An international financial architecture should consist of both principles and policies
which should bring about the necessary binding and accountable international financial
and other institutions as well as requiring the cooperation of national financial institutions
with accountability and transparency. International institutions will gradually create an
environment conducive to world resource reallocation based on the principle of
comparative advantage, stronger economic growth, international accountability,
international stability and predictability, increase in the transfer of technology, etc. In the
presence of effective international institutions, all nations will want to ensure that the
national financial architecture at home and abroad is accountable and in accordance with
international standards, as they are members of the global system and benefit from the
global system as well, much in the same way as EU members such as Germany and
France have it in their best interests to ensure that other member states conform to the
standards set by the EU.
A world federal system in a dynamic context could release both the potential of all the
people of the world and also ensure that both the financial and human resources of the
world are used to promote the welfare of all the inhabitants of the world. One of the
immediate consequences of a world federal system will be the release of enormous
financial and human resources currently used in the military sectors of all the nations.
While a world federal system will need an international military force to protect the rights
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of all nations and individuals as well as a national police force to maintain internal
security and order, all expensive research and development and the enormous human and
financial resources currently used for national security will be able to be used for
productive use in agriculture, industry, environment, education and health. The dynamic
effects of such a reallocation of resources and priorities in the best interests of all people
of the world will have economies of scale, and also result in faster and more effective
technological changes, a greater chance of inventions and innovations in the areas of
alternative sources of energy and the usage of timber and the potential to marshal national
and international resources for global education, health and environmentally sound and
sustained economic growth.
In a global federal system where the security of all nations is protected by international
laws, a world parliament, an international tribunal, a world federal government and an
international police force, nations will be naturally encouraged to use their resources
based on comparative advantage rather than based on the national interest and national
security fears. One of the implications of these changes will be that many developing
countries will become the major suppliers of agricultural products and they will be given
a chance through the world federal government’s ministries of education and health to
improve the conditions of billions of people who then will become active and productive
agents of change in a dynamic global system. There are a number of key issues which
affect the interest and welfare of all nations of the world and should be treated as
contributing to the global public good and yet because of the lack of a global system,
these issues are left to each nation to find solutions, according to their national interests
and needs. Some of these issues are international monetary and financial stability, cheap
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and clean energy, an alternative source of wood and timber, protection of the global
environment, protection of the sea, water and air, and a global education and health
system. The experience of the last fifty years or so indicates that the above issues have
not been addressed due to the nationalistic approach taken to these global public goods
and hence require global institutions and a global system to address them. A global
federal system will be capable of addressing the above and other global issues by
marshalling resources and people who would be working, for instance, for the World
Ministries of science and technology, environment, sea, agriculture, finance, etc.. In other
words, as Moshirian (1998) indicated, the history of science and technology indicates that
scientists and others are capable of responding to the challenges and the needs of a global
society if the right incentives, resources and environments are provided for these
scientists and other agencies of change. Yet at the present time, the dynamic effects and
significant gains to all people of the world including national peace and security are
missing due to the lack of such a dynamic and global system.
It is obvious that in the context of a world federal system, the new international financial
architecture will be very effective, as the world federal ministry of finance and/or
economics will be responsible, as part of a world federal government, to ensure that all
the needs and requirements of a global financial system are well realised and the national
governments also fully comply with the international requirements of this system. The
above concept can easily be related to the national systems of various countries. For
instance, in the absence of the US federal government, the existence of a ministry
responsible for financial issues in isolation from all other needs and requirements of the
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US government and society would be ineffective. Similarly, the current role of the IMF,
the World Bank and the UN could be analogies to national institutions of a country like
the US where in the absence of a clear mandate from the people of the US for a federal
government backed by judicial, legislative and constitutional authorities, it would be
ineffective to try and address, in isolation, the financial system or the legal system of the
US.
Indeed, the study by Mowery (1990) indicate the significant role of the US
government institutions in tranforming the US economy in early 20th century to one of
the most dynamic economies of the world. That is why this paper argues for a holistic
approach to the needs of the international financial system in the new millennium and
suggests the establishment of a democratically elected world federal government and a
world parliament, that works in collaboration with the existing national governments,
along the lines of the relationship between the EU and its member nations, which can
reduce the enormous waste of resources currently used in the military sectors, bring about
accountability and transparency for all the national governments of the world, reallocate
the resources of the nations based on the principal of comparative advantages, establish a
global financial system, establish international laws to safeguard the interests of all
people and nations, ensure global peace and security, implement universal education and
health, and provide an environment conducive to technological change which will ensure
the protection of the global environment, will ensure affordable and clean energy, an
alternative source of timber and sustainable economic growth and productive investment.
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6. A review of papers in this issue
The articles that make up this special issue of the journal address various issues relating
to the international financial market and contribute to a better understanding of some of
the elements of the current issues in global finance and indirectly contribute to the debate
on global issues for better international financial markets.
M. Engstrom examines the implied volatilities for Swedish equity options and show that
there is a rather U-shaped smile pattern when volatilities are averaged according to the
moneyness of the options. T. Chauveau and H. Gatfaoui obtained a new pricing formula
for a European call which include the volatilities of the market and stock market. C. Jiang
et al find higher return volatility, more trading activity and lower adverse selection cost
post split for all ADR stock splits over the period 1994-1999. M. Courchane et al test for
strategic real options and endogenous market structure in internet banking and find tha
the realtive bank size and demographic information predictive of future demand
positively influence entry into the internet banking. R. Faff et al apply a multivariate
GARCH model in order to measure the interactive and time varying effects on beta risk
and the extract residual returns from the decision to cross-list stock from a small market
to multiple larger markets. M.Chang et al investigate the relationship between revisions
and subsequent stock returns in 15 Asia-pacific markets. C. Chen and R.So examine how
exchange rate fluctuations around the 1997 Asian financial turmoil affect the sensitivity
of multinational to stock market risk. J.Xiang examines the influence and explanatory
power of aggregate insiders trading activities on momentum trading strategies and finds
that insiders trading activities have ability in predicting cross-sectional returns.
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It is hoped that the points raised in this paper can stimulate those policy makers and
academics who are working for the enhancement and improvement of the global financial
system and assist them in their public discussion and debate in finding an effective global
system which can accommodate the interest of all people and nations.
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