What role do governments play in hindering / fostering financial

globalization?

Financial globalization can be defined as the integration of a country’s indigenous

financial systems with international financial markets and institutions. This concept
entails respective economies to liberalize their financial sector and their capital account.
Financial liberalization causes an increase in cross border capital flows, and an expansion
of markets for local business.
The trend of financial globalization picked up pace after the 1980s. Rising cross
border financial flows were seen within industrial economies and between industrialized
nations and developing and emerging markets. This process was facilitated by
liberalization of capital controls by governments to reap benefits such as improved global
capital allocation and diversification of business risk. Financial globalization is generally
more beneficial for developing economies faced with weak financial systems and volatile
income growth.
The concept of financial globalization has immense policy relevance. The economic
crises in Latin American emerging economies, Mexico and some Asian economies in the
late 1980s and 90s was largely blamed on financial globalization. These countries were
accused of dismantling financial controls too hastily which led to significant and rapid
capital transfers. These policies led to the virtual collapse of these economies and
resulting in a new trend in policy making; governments started adopting a more
conservative approach and felt the need to conduct thorough research on the potential
economic repercussions of their decisions.
There are a number of economic policies that can affect the course of financial
globalization. However there are five government areas of policy which can have the
most impact on global financial integration. Governments have the ability raise finances
by borrowing money in foreign markets. This may be done by issuing government bonds
to foreign investors or borrowing directly from other countries. Furthermore governments
can set the course of financial globalization by either restricting or encouraging foreign
direct investment. Governments have the power to allow or deny corporations from
issuing shares and bonds on foreign markets and may or may not allow local investors to
invest their money across the globe. Finally the government can allow and regulate the
levels of international trade. (Kenan, 2007)

Countries have the ability to raise money in foreign markets in order to finance
budget deficits and fuel economic growth. This ability is dependant on the government’s
ability to pay back the borrowed funds. These funds maybe borrowed directly from
foreign governments which show a budget surplus or through international bodies such as
the International Monitory Fund and the World Bank. Developing countries are most
likely to borrow money from the international credit market as they often face a deficit
and require the surplus funds. Sovereign governments may choose to either borrow on the
international credit market or strive to raise the funds locally. This is dependant on the
political and economic ideologies of the governments. Socialist and communist countries,
for example are opposed to the idea of borrowing money from other countries. They
strive to raise funds internally either by reducing spending or investing in capital goods
which would help raise finance in the long run as well as allow economic growth.
Countries may also be resistant in borrowing as a result of the influence the creditor may
have on the borrower’s economic policies. This issue is often debated in developing
countries such as Pakistan which are debtors of international organizations such as the
IMF. The IMF gives the loans with certain conditions which may result in adverse impact
on the quality of life of the citizens of the country. In Pakistan, for example, the IMF has
placed conditions which involve raising taxation on utilities and income; this lowers the
standard of living as people have low incomes to begin with. Countries lend funds in
order to earn interest or to improve economic and diplomatic ties with other nations.
Governments may hesitate in lending if they are expecting to face bad debts. Certain oil
producing countries such as Oman, Saudi Arabia, U A E, Libya and Qatar classified as
creditor countries by the IMF. This due to enormous surpluses they face as a result of
their oil wealth. (Gelos. Et. Al, 2001) (Dawn.com)

When a firm from one country invests money in order to setup an operation in
another country, it is known ad foreign direct investment. FDI is considered to be the
most important form of financial globalization undertaken by the private sector.
Governments may or may not allow access to their markets to foreign investors. They
also determine the extent to which a foreign investor may invest in the country. India is a
good example to argue this case. It has only recently opened its shores to the international
financial sector. India has a very controlled system for FDI. If a foreign firm wishes to set
up an operation in India, it must partner with a local firm so that a percentage of the
profits maybe reinvested in the country. The Japanese firm Suzuki has partnered with the
Indian firm Maruti to manufacture cars in the country. In Pakistan, foreign investors are
required to reinvest a percentage of their profits for a year back into the country.
(finance.indiamart.com)(sbp.gov.pk) The Chinese government encourages FDI in sectors
which protect the environment and are research intensive while it does not allow
foreigners to mine rare minerals found in the country.
(http://uk.reuters.com/article/idUKPEK33905220071107)
“Restrictions on foreign ownership are the most obvious barriers to inward FDI. They
typically take the form of limiting the share of companies’ equity capital in a target sector
that non-residents are allowed to hold, e.g. to less than 50 per cent, or even prohibit any
foreign ownership. Examples of majority domestic ownership requirements include
airlines in the European Union and North American countries, telecommunications in
Japan, and coastal and freshwater shipping in the United States. Exclusive domestic
ownership is also often applied to natural resource sectors with the aim of giving citizens
access to the associated rents. For example, foreign ownership is banned in the fishing
and energy sectors in Iceland, and in the oil sector in Mexico. Although not specifically
aimed at excluding foreign shareholders, statutory state monopolies are tantamount to a
ban on foreign investment.” (oecd.org)

As a result of an integrated global financial system, firms are able to issue stocks and
bonds on foreign stock markets. This trend grew at an exceeding pace during the 1990s.
These shares were traded most heavily on the US stock exchange. This was due to the
liquidity, depth, regulation and fairness of the US stock market. Many foreign issuers find
it easiest to raise capital in the United States through the creation of American Depositary
Receipt programs. ADRs are traded on U.S. stock markets in lieu of the foreign shares.
(http://www.sifma.org/legislative/international_equity_.html)
Foreign trading of equities and domestic-currency debt have increased increasingly in the
last few years, and foreign portfolio investments exceed direct investments in some
emerging market countries, including Brazil, India, Indonesia, Israel, Korea, the
Philippines, Turkey, and Uruguay. (Kenan, 2007)

International trade has played a pivotal role in the integration of global financial systems.
It is one the most hotly debated topic in the international community. There are those
governments such as the United States which take a stand for free trade while others
oppose it strongly. International trade restriction is one the most effective tool a
government can use to both promote and hinder financial globalization.
There are a number of ways in which a government can restrict international trade. They
may impose embargos which means they can ban trade of goods between countries; this
is the case with United States and Cuba. (usitc.gov)
Governments could set quotas for international trade furthermore they could charge
import duties in order to lower the number of imports. This is a case in Pakistan where
the government has set a duty of between 200 and 300% on imported cars. This has been
done in order to protect the local automotive industry from foreign imports. (sbp.gov.pk)
India has recently started welcoming foreign good into the country. This is because due
its leaders’ socialist ideologies, the Indian governments promoted development and
growth at home rather than dependence on foreign goods. However now India is a part of
the world trade organization which promotes liberalization of trade between countries.
Governments may choose liberalize international trade in order to gain access to new
markets and cheaper resources. This can be by countries forming trade zones economic
unions. Examples of these include the EU which is an economic union amongst the
countries of Europe. This allows relatively free capital flows along with an access to a
larger market for all the countries involved. (ec.europa.eu) another example of this is the
North American Free Trade agreement. This allows Canada, USA and Mexico to freely
access each others markets for the purpose of trade. (nafta.org).These trade agreements
may also result in hindering the process of financial globalization as in the case of OPEC.
It is the union of oil producing nations. These countries work in the form of a cartel
which can cause problems for countries which are interested in the purchase of foreign
oil. (opec.org)
Countries also peg their currencies to certain currencies such as the dollar in order to
stabilize their trade partnerships. This is case with China which has pegged the Yuan to
the Dollar. This peg allows China to remain a stable trade partner with the United States
and other countries in the world as the movement of its currency is based on the volatility
of the US dollar. In this way Chinese has managed its steady economic growth through
international trade. IF the US dollar dips in price, so does the Yuan in this way prices of
Chinese goods remain stable in the international market.
(http://seekingalpha.com/article/193461-china-s-yuan-dollar-peg-untenable-
unsustainable-indefensible-unsound)
Governments play a key role in the integration of financial systems across the globe.
Their policies have a deep impact on the concept of financial globalization. A countries
government may choose to employ policies which promote financial globalization and on
the other hand policies may also hinder financial globalization. Governments are very
cautious in making these policies as they have a great impact in the economic condition
and financial stability of their respective countries. They have a number of instruments
which they can manipulate in order to take a stand on financial globalization. They can
manipulate capital flows which include the lending and borrowing of sovereign debt,
foreign direct invest and portfolio flows. Furthermore, they can restrict or liberalize
international trade. Which ever instrument they choose, they will play a key role in the
development of financial globalization.
Bibliography
• FT.com
• Reueters.com
• SBP.gov.pk
• CNNMONEY.com
• Ec.EUROPA.eu
• OPEC.org
• http://seekingalpha.com/article/193461-china-s-yuan-dollar-peg-untenable-
unsustainable-indefensible-unsound
• Ustic.gov
• NAFTA.org
• SIFMA.org
• Finance.indiamart.com
• OECD.org
• DAWN.com

• Kose, M., et. al, Discussion Paper No.4037, Financial Globalization and
Economic Policies, Feb 2009.

• Kose, M. et, al., Financial Globalization: A reappraisal, IMF Working Paper, Aug
2006.

• Kenan, P, The Benefits and Risks of Financial Globalization, Cato Journal, Vol
27, No 2, Spring/Summer 2007

• Schmukler, S., Financial Globalization: Opportunities and Challenges for

Developing Countries, Globalization Policy Report, 2009

• Gelos, R., Sovereign Borrowing by Developing Countries: What

Determines Market Access?, IMF Working Paper, Nov 2009

• Brennan, M., International Portfolio Investment Flows, The Journal

of Finance, Vol LII No.5, Dec 97