Disappointments of financial globalization, continued

Here is a new paper by Ayhan Kose, Eswar Prasad, and Marco Terrones that provides the strongest evidence to date that financial globalization has not provided better risk-sharing for emerging market economies. In the authors' words:

Our main conclusion is that, notwithstanding the prediction of conventional theoretical models that financial globalization should foster increased risk sharing across all countries, there is no evidence that this is true for developing countries. Even for the group of emerging market economies—which have become far more integrated into global markets than other developing countries—financial globalization has not improved the degree of risk sharing. For advanced industrial economies, there is indeed some evidence that risk sharing has improved in the last decade and a half. Our formal econometric analysis confirms that
increased financial openness improves risk sharing among industrial economies, but this effect is absent for the other two groups of countries.

If anything, the authors detailed results suggest a decline in risk-sharing in developing countries during the recent period of financial globalization, despite a huge increase in gross financial flows.

Why? The authors speculate that maybe it has to do with developing countries' reliance on forms of external finance which do not do a great job of providing insurance or with the boom-and-bust cycles that financial globalization has sometimes stimulated.

The bottom line?

One interpretation of our results is that there is a threshold effect in terms of how financial globalization improves risk sharing, in that only countries that are substantially integrated into global markets (in de facto terms) appear to attain these benefits.

Note the caveat, "in de facto terms." In other words, there is a there there, and you get there when you get there.   

Comments

[Per Kurowski]

The basic concept behind global financial risk sharing is that in an ocean the ripples of an event should be smaller than in the bathtub of the domestic realities and so you should be able to take away some volatility that would in its turn allow for a smoother consumption growth. It sounds great!

But, if by opening up your small bathtub to the oceans you are exposing yourself to real Tsunamis then your volatility will increase.

But, if the ways the financial oceans operate are simultaneously undergoing changes as for instance imposing upon them the criteria of some few credit rating agencies then of course, volatility and systemic risks could increase dramatically

But, if the way you are simultaneously regulating one of the major financial actors, the banks, in such a way that bank risks go into hiding elsewhere in hedge funds and in derivatives, then you might already be suffering of huge volatility increases though they have not yet been recorded by the financial models that seem to be designed to postpone reckonings and create commissions.

[hari]

The question is, "globalization of financial markets for WHOM?"

Invariably third-world countries without the financial infrastructure
will not be in position to benefit from globalization.

Dhoa Round collapsed simply because India and Brazil finally recignized what OECD countries actually mean by globalization.

[paine]

couldn't imagine more cogent work product then this...

recall your own u shaped diversity curve

this high threshold
of foreign trade
and finance entanglement
b4 openning up
"works for u "
sez to me
don't plan on retaining control
if you want to join the earth hi fi web
and don't expect an advantage
unless you sell
your soul to the system

so far
the observational science
has identified
the high crime zones
that exist below the thresh hold
but having nothing
but a vague
hunch as to "criminal" motivation and behaviour ...

btw
sea and bath analogues
brake down when
principals and agents
need to be specifying
and their motives
need embedding
in the network

[paine]

"bank risks go into hiding elsewhere in hedge funds and in derivatives"

great line !!!!

[wjd123]

It seems to me that the only thing financial globalization has done it to make it easier for financial institutions to escape regulation.

Just how does that provide better risk sharing? How can anyone know what is going on? Do we just wait for the next hedge fund to fail so we can find clues among the rubble?

[Per Kurowski]

wjd says: “It seems to me that the only thing financial globalization has done it to make it easier for financial institutions to escape regulation.”

For some maybe, but for others it frequently also means having to live with lousy and inadequate regulations and not being able to escape enough. Who ever told you a regulator must be right just because he is a regulator? In my country (a developing country) financial globalization and the rules that came with it stacked the deck in favor of public sector borrowings and in other countries it seems to mainly have forced consumer credit on many innocent and unsuspecting victims.

[wjd123]

Per Kurowski,

International finance is a phenomenon that grew up without parents. Those international parents are still missing. My argument was that without these parents financial institutions can avoid regulations by moving assets between nations. they can avoid national regulations.

A claim was made that these institutions are somewhat better at risk sharing today. How can anyone be sure when most of what financial institutions are doing internationally is secret?

I certainly don't advocate "lousy" regulations or "inadequate" regulations. What I want is disclosure and rules that insure that financial institutions aren't serving their interests first when there are other interests involved. How many times have we seen financial institutions go belly up and are put right again with the taxpayers money because they are to big to fail--a euphemism for, "their failure would effect to many other institutions."

I personally don't want my pension fund managers investing in some hedge fund, the inner working of which, they know little about.

I don't want financial institutions to be able to hide what they are doing--for instance with different accounting standards. I want to know what the rules of doing business are and that someone is practicing oversight. I also want that "someone" to be able to enforce the rules. If financial institutions want to complain about it, let them argue their case publicly. The NYSE is claiming that Sarbanes-Oxley disclosure rules are hurting their business and they want them weakened. Without a public debate and public information we wouldn't know what the evidence shows.

Since you live in a developing country which you claim has lousy rules and regulations, I would think that having international oversights could only help the situation by exposing the inadequacies.

If countries are biased in allowing risky loans, I want to know about that also. I won't know if they can hide their dealings. For instance it would have been helpful to have know about the extent of sub prime loans made by financial institutions before the housing market tanked. When every mortgage gets carved up into pieces and resold around the world how can I know the status of sub prime loans before it's too late. And how does this make for greater risk sharing. It seems to me it makes things riskier for everyone when everyone is looking for another way to make money on my mortgage with no regulations and ad hoc rules.

[Per Kurowski]

Wjd123 says ”Since you live in a developing country which you claim has lousy rules and regulations, I would think that having international oversights could only help the situation by exposing the inadequacies.”

Not necessarily, since these international oversights can also inadvertently be empowering the wrong people. You should know by now that any book of regulations or Constitutions for that matter can produce totally different results depending on who does the interpretation… Do you really need examples?

[Per Kurowski]

Wjd123 says “It seems to me it makes things riskier for everyone when everyone is looking for another way to make money on my mortgage with no regulations and ad hoc rules.”

I would definitively say so. Are you aware that with some hedge fund derivatives you have actually in the USA created vested financial interests in people losing their homes… investors who the more people default on their mortgages the more they stand to gain? They would argue that this risk “derivation” implies that people can have better and cheaper access to mortgages…in the short term yes but in the long run, netting out the huge commissions of the intermediary… baloney!

[Per Kurowski]

Wjd123 “I want is disclosure and rules that insure that financial institutions aren't serving their interests first when there are other interests involved.”

No, I much prefer knowing that financial institutions serve their interests first, than being defended by someone I do not know or believe can defend me. At this moment the commercial banks have dismantled much of their credit analysis capability since they have been almost forced to outsource much of it to three (only 3 in the whole world!) credit rating agencies and I sincerely do not think we are better off because of that. Just the contrary. Were it not for the credit rating agencies giving good ratings to mortgage backed securities without even checking up on how those mortgages were issued your subprime mortgage problem would only be a minor fraction of what it is right now.

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