Picture This: Global Capital Flows Defying Gravity

The Two Faces of Financial Globalization looks at the phenomenon of rising cross-border financial flows-credited with boosting growth in developing countries but also blamed for the emerging market crises of the late 1980s and 1990s. The lead article puts together a framework for analyzing studies about the costs and benefits of financial globalization. Other articles look at the worldwide allocation of capital, the role of finance in macroeconomic management, and changes in the investor base. "Picture This" illustrates the growth and direction of capital flows. One guest contributor describes India's capital account liberalization, and another looks at how participants in international finance can cope with a fluid financial landscape. "People in Economics" profiles Guillermo Calvo; "Back to Basics" explains the difference between the purchasing power parity exchange rate and market exchange rates as measures of global economic growth; and "Country Focus" spotlights Australia.

Abstract

The Two Faces of Financial Globalization looks at the phenomenon of rising cross-border financial flows-credited with boosting growth in developing countries but also blamed for the emerging market crises of the late 1980s and 1990s. The lead article puts together a framework for analyzing studies about the costs and benefits of financial globalization. Other articles look at the worldwide allocation of capital, the role of finance in macroeconomic management, and changes in the investor base. "Picture This" illustrates the growth and direction of capital flows. One guest contributor describes India's capital account liberalization, and another looks at how participants in international finance can cope with a fluid financial landscape. "People in Economics" profiles Guillermo Calvo; "Back to Basics" explains the difference between the purchasing power parity exchange rate and market exchange rates as measures of global economic growth; and "Country Focus" spotlights Australia.

TECHNOLOGICAL innovations and faster information flows, aided by a sharp increase in total savings being channeled into financial instruments across borders, have fostered the dramatic globalization of capital flows—defined as the flow of capital across borders. These flows—including debt, portfolio equity, and direct investment-based financing—topped $6 trillion in 2005.

A06ufig1

Gross global capital flows have surged since 1995.

Citation: Finance & Development 0044, 001; 10.5089/9781451953787.022.A006

Source: IMF, International Financial Statistics.

Developed European countries have provided large amounts of finance to emerging European countries that are newcomers to the European Union.

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… with its share increasing from 55 percent to 72 percent in the past decade.

(share in global capital outflows, percent)

Citation: Finance & Development 0044, 001; 10.5089/9781451953787.022.A006

Source: IMF, International Financial Statistics

Europe, the leader of the pack, has enjoyed rapid growth in intra-European flows, fueled by the adoption of the euro as the common currency.

A06ufig3

Europe has led the way…

(global capital flows, billion dollars)

Citation: Finance & Development 0044, 001; 10.5089/9781451953787.022.A006

Source: IMF International Financial Statistics.

Countries have been shifting toward issuance of local currency debt, reflecting better fundamentals, greater foreign investor appetite, and a growing domestic institutional investor base. A favorable global environment has allowed them to lock in longer-term funding and improve debt structures.

A06ufig4

Local emerging bond markets are growing rapidly.

(selected emerging markets’ outstanding domestic debt, percent of GDP)

Citation: Finance & Development 0044, 001; 10.5089/9781451953787.022.A006

Source: Bank for International Settlements.

Emerging market countries, though still a small share of overall capital flows, have seen their share grow significantly, thanks to the large current account surpluses of Asia and, more recently, of oil exporters.

A06ufig5

Paradoxically, emerging market countries are a key provider of capital to mature markets.

(global capital flows, billion dollars)1

Citation: Finance & Development 0044, 001; 10.5089/9781451953787.022.A006

Source: IMF, International Financial Statistics.1Excluding United Kingdom and mature Europe.

Global imbalances have risen in recent years, with a growing current account deficit in the United States and surpluses elsewhere. The attractiveness of U.S. financial markets has supported inflows (including from emerging markets) that financed the current account deficit.

A06ufig6

The sizable U.S. current account deficit mirrors the surpluses in Asia and the oil exporters…

(current account balances, percent of world GDP)

Citation: Finance & Development 0044, 001; 10.5089/9781451953787.022.A006

Sources: IMF staff estimates; Haver Analytics; and IMF, International Financial Statistics.

Capital flows from emerging market countries to mature markets have been dominated by central bank reserves and sovereign wealth funds, mainly from emerging Asia and oil exporters.

A06ufig7

These flows are mainly in the form of official reserve flows Into U.S. long-term securities.

(billion dollars)

Citation: Finance & Development 0044, 001; 10.5089/9781451953787.022.A006

Source: U.S. Federal Reserve, Flow of Funds data.

Despite high current account deficits and strong capital inflows, U.S. net foreign liabilities have remained stable in recent years as U.S. foreign assets have appreciated with a weaker dollar and strong stock markets abroad. But, with continued high current account deficits, they are likely to rise sharply.

A06ufig8

… but there was little buildup of U.S. net foreign liabilities.

(net foreign assets, percent of world GOP)

Citation: Finance & Development 0044, 001; 10.5089/9781451953787.022.A006

Sources: Haver Analytics; IMF International Financial Statistics and staff estimates; and Philip Lane and Gian Maria Milesi-Ferretti, “The External Wealth of Nations Mark II: Revised and Extended Estimates of Foreign Assets and Liabilities,” IMF Working Paper No. 06/69 (Washington: International Monetary Fund, 2006).

Prepared by Mangal Goswami and Jack Ree of the IMF’s Monetary and Capital Markets Department and Ina Kota of the IMF’s External Relations Department.

Finance & Development, March 2007
Author: International Monetary Fund. External Relations Dept.
  • View in gallery

    Gross global capital flows have surged since 1995.

  • View in gallery

    … with its share increasing from 55 percent to 72 percent in the past decade.

    (share in global capital outflows, percent)

  • View in gallery

    Europe has led the way…

    (global capital flows, billion dollars)

  • View in gallery

    Local emerging bond markets are growing rapidly.

    (selected emerging markets’ outstanding domestic debt, percent of GDP)

  • View in gallery

    Paradoxically, emerging market countries are a key provider of capital to mature markets.

    (global capital flows, billion dollars)1

  • View in gallery

    The sizable U.S. current account deficit mirrors the surpluses in Asia and the oil exporters…

    (current account balances, percent of world GDP)

  • View in gallery

    These flows are mainly in the form of official reserve flows Into U.S. long-term securities.

    (billion dollars)

  • View in gallery

    … but there was little buildup of U.S. net foreign liabilities.

    (net foreign assets, percent of world GOP)