Introduction
One year ago (November 2010), the 42nd Annual Regional Monetary Studies Conference hosted by the Central Bank of Trinidad and Tobago paid tribute to my research in the field of money and finance. My reply to the tribute was entitled: Looking Backwards into the Future. In that presentation I sought to portray the ongoing global economic crisis as one essentially located in the advanced industrialized economies, particularly those situated in the North Atlantic area. My belief then was that global economic recovery was on the way, even if somewhat subdued.
Method-wise, I sought to go beyond the standard neoliberal treatment of global crises as unwelcome episodes in an otherwise ordered and steady evolution of a truly unified and independent global economy, with its attendant financialisation. I had further explored the mechanisms of the currency board system, which operated in pre-independence Guyana in order to illustrate the limitations inherent in treating the global economy as if it were a unified and independent social construct.
Perspective and response
From the neoliberal perspective, global crises are treated as anomalies occasioned by some combination of all of the following market phenomena: 1) “deviant behaviours” among a multitude of financial agents; 2) the emergence of “flawed” financial instruments (securitization!); 3) the perpetuation of “conflicted interests” within financial institutions; 4) “weak” administrative structures; 4) “lapses” in regulation and oversight; 5) “loose” legal arrangements and regulations; and 6) generally poor governance in major economic and financial organizations.
Focusing policy responses to the crisis as requiring corrections to these anomalies lessens the need for deeper theoretical inquiry into the essential historical character of the crisis. The grave theoretical risk is simply one of evading the most basic question: is the ‘global’ crisis truly global? When I researched this question for my presentation it soon became evident that the jury was still very much out as to how truly global was the then ongoing economic and financial crisis.
I thereafter proceeded to examine six key trends from among the standard indicators of financial globalization. These trends were: 1) the global growth in financial assets; 2) total global borrowing; 3) total cross-border capital flows; 4) foreign assets and liabilities as a share of world GDP; 5) external assets and liabilities held by the world’s banking systems; and 6) reverses in capital flows as well as financial write-downs and bank failures, as indicators of how serious was the global financial meltdown after 2008. All of these trends revealed very rapid changes at the aggregated level.
However, when the data were differentiated and disaggregated, what clearly emerged was that the financial indicators within the group of advanced industrialized economies, (or alternately, North America, Greater Europe, Japan, New Zealand and Australia) clearly predominated, despite the rapid rise of the emerging economies. Frankly speaking, this is hardly what one would have expected from a financial crisis and credit crunch of such humungous global proportions.
Localized impact
The impact of the crisis had been heavily localized up to then. Thus, while globally there were: 1) huge declines in capital flows; 2) huge increases in government debt; 3) large increases in currency volatility; 4) large declines in equity and household wealth; 5) large increases in toxic assets; and 6) the pronounced widening of risk spreads, unquestionably however, most of the reverses were located in the advanced economies. Their financial integration was historically unprecedented.
Many factors account for this marked financial integration, including:1) financial innovation (securitization); 2) expansion of new financial institutions (the shadow banking sector hedge funds and investment banks); 3) offshore special purpose financial vehicles; 4) regulatory arbitrage; 5) financial integration in the European Union (including the creation of the Eurozone); 6) the reduction of information and communication costs; as well as 7) supportive government policies including trade openness and capital flows liberalization.
Conclusion
Some analysts are of the view that whilst the previous growth in financial integration of the advanced industrialized economies was driven by equities and private debt, in the future these will grow more slowly as the emerging markets assume an increasing role in financial assets growth.
But at this point in time and for the foreseeable future it is my firm belief that the advanced economies will still account for more than four-fifths of the world’s financial assets. I therefore raise the probability of the spectacular rise in financial globalization stalling.
Furthermore, recent research data still indicate a puzzling home-bias in the asset/liabilities structure of financial businesses and household portfolios in the advanced economies. This is similar to what has been observed in international trade, where it has been found that when formal barriers to trade are removed among long-established, adjacent and culturally similar trading partners, the value of trade and other flows within the adjoining states overwhelmingly predominate over cross-border flows. The law of one price does not hold as price dispersion rules.
The inherent improbability of a truly single unified global financial system lies in the risks and uncertainties deeply embedded in the international system. Among these are 1) a world composed of different national currencies; 2) the absence of a single global currency; 3) the presence of national financial systems, including national discretionary authorities capable of operating as lenders of last resort, currency issuers, and also capable of influencing the supply of money through various policy instruments; 4) the presence of only a very restricted number of countries that can borrow on international markets in their own currency, for use domestically; and 5) the resulting situation whereby the vast majority of countries in order to borrow from international markets to finance their domestic needs have to do so in some other country’s currency.
Based on the above, the notion of a truly unified independent global financial system in crisis is rejected as a valid theoretical abstraction.
