Financial globalisation – just about right now

It is the fourth—bank lending—that has collapsed. In 2015, net cross-border lending was actually negative, as banks called in more international loans than they extended. Taking these figures together, McKinsey calculates that the evaporation of cross-border bank lending explains three-quarters of the overall fall in cross-border finance since 2007. To some extent—indeed, probably to quite a large extent—the retreat from cross-border lending represents a healthy correction.

Cross-border capital flows peaking at 21 percent of global output reflected a toxic mix of ambition and credulity, notably among European banks. But if 2005–07 was an aberration, what is the appropriate benchmark for global integration?

One way to answer this question is to consider the period from 2002 to 2004, a relatively calm interlude between the early 2000s crash of internet-based companies (the so-called dot-com collapse) and the U.S. subprime borrowing and euro area bank lending mania later in the decade. In those three years, cross-border capital flows averaged 9.9 percent of global GDP.

Although there is no denying that finance is less international than it used to be, it is debatable whether this retrenchment is best described as “deglobalization,” with its connotations of retreat, or as something more positive—“sounder global management.” After all, the new regulatory restrictions are at least partly a response to the risks of cross-border financing, which suggests a desirable level of flows considerably lower than the 9.9 percent of global output during 2002–04. If the optimal ratio were, say, around 5 percent, today’s degree of financial globalization might be just about right.

These are select extracts from the article by Sebastian Mallaby in FINANCE & DEVELOPMENT, December 2016, Vol. 53, No. 4 [Link – ht: Gulzar Natarajan]

If cross-border bank lending were down and if, post-2008, global leverage has increased rather than reduced, it follows that bulk of the lending is domestic or through capital market borrowings. I think it is more the former because cross-border bond flows have only slightly decreased, according to Mallaby, in the same article:

Two types of flows—bond purchases and foreign direct investment—have fallen, but not dramatically.

The risks have shifted from the banking sector. Arguably, that is a good thing.

Next, in that article, he deals with international trade flows. He makes distinction between trade flows in volume and trade flows measured in US dollars. Then, he points to the US dollar strength of recent years as another reason why measured US dollar trade flows might overstate the decline in global trade. Fair points, all.

Article well worth a read. Good to have hypotheses on economic and financial trends but better to cross-check with data. Sebastian Mallaby’s work is a necessary corrective on the collective breast-beating on de-globalisation.

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