“The rapid expansion of international financial market since early 1980s have integrated the world economy”. Discuss. The international financial system is a structure of markets within which organizations and individuals trade to support economic commitments made across national borders where buyers and sellers participate in the trade of assets such as equities, bonds, currencies and derivatives. Financial markets are typically defined by having transparent pricing, basic regulations on trading, costs and fees and market forces determining the prices of securities that trade.
The international financial market expands rapidly including money and derivatives since early 1980s. The increased integration of financial systems has involved greater cross-border capital flows, tighter links among financial markets, and greater presence of foreign financial firms around the world. The expansion in international financial market also means that establishment and expansion of international investment banks/ firms such as Crosby, Morgan Stanley, JP Morgan, UBS, Franklin, Templeton, Barney & Smith, Union Bank in Swiss etc.
Such firms created varieties of investment fund such as hedge fund and mutual trusts. The expansion of such investment funds has enhanced volume of foreign policy initiative (FPI) in the world economy. The role of short term (mainly portfolio capital) increased in world economy. Capital in the international financial market can be classified into two types, which is short-term Intra-Bank Loan, which maturity less than one year and portfolio investment (investment in money, bond, stock and derivatives). Mobility of these investment very high, outflow and inflow very fast.
Besides that, volume of short-term capital mobility (STC) also increased dramatically in the world economy. Currency used in trading in international capital market which dominated by industrial/rich nations are in US Dollar (US$), DM/Euro and Yen. US dollar is the main vehicle currency used in the market (above 55%). There are few reasons why STC/FPI dominated international economy. The first factor is elimination of capital and currency controls or liberalisation of capital account of Balance of Payments. This has stimulated inflow of STC to international capital market including capital market in developing countries, i. emerging economies. Next, technology development information increases the rapid development of international market and the speed of transaction in the market. The technology enables a deal done within a minute. Furthermore, no international financial and architecture (IFA) to supervise or control movement of portfolio capital including activities and expansion of financial institutions is another determinant of domination of STC/FPI in the economy. The rapid expansion of financial market is due to parity established at Bretton Woods in 1960s this crisis marked the breakdown of the system.
An attempt to revive the fixed exchange rates failed, and by March 1973 the major currencies began to float against each other. The speculative pressure force closure of international foreign exchange markets for nearly two weeks, the market reopen on floating rate for major industrial countries. The Jamaica Agreement by IMF further legalizes the floating exchange system and increased the role of US currency in international economy. As a result, gold is demonetize as a reserve asset, the role of US$ in international economy increased thereafter.
International financial market factors enable expanding and creation of various instruments or product of financial market including derivative (swaps, option, future, forward). At the same time, many countries have encouraged inflows of capital by dismantling restrictions and controls on capital outflows, deregulating domestic financial markets, liberalizing restrictions on foreign direct investment, and improving their economic environment and prospects through the introduction of market-oriented reforms The rapid expansion of international financial markets had brought several impacts to the world economy.
International financial market indirectly integrated. The rapid expansion of international financial market will lead to volatility in most of financial products/ portfolios such as currency, interest rate, equities are larger. Moreover, the speed of trading will become very fast and in large scale. For example the new money fueled a level of inflation never before seen in modern Mexico; the inflation rate eventually surpassed 100 percent annually. The administration chose to ignore warning signs of inflation and opted instead to increase spending.
Apart from that, movement of asset prices may relate to “herding behavior”, irrational behavior of investors and caused contagion in the markets. Contagion refers to the transmission of a currency crisis throughout a region. Contagion effect of international financial markets is more severe and fast than to commodity markets. In addition, if crisis emerged in major markets it spread quickly to other regions. For instance, any shocks to financial sector in developed countries let say New York Stock Exchange drop will affect or bring other stock bourses around the world.
Furthermore, transmission from the financial market to the real sector will be affected subsequently. The expansion of financial markets have bring benefits which are rapid spreading of technological advances, financial innovation as well as, more generally, financial performance to the various parts of the globe. In a global financial market, technological advances in payment, settlement and trading systems as well as in financial information systems can be made available to all market participants instantaneously.
And advances in financial technology such as trades and other derivatives have made it possible to take advantage of many new financing opportunities. Reductions in the “costs of transport and transmission of data” as well as the cost of acquiring, processing and storing information have played a significant role in furthering the process of globalization. Besides that, the expansions of financial market will led financial institutions compete with each other to provide benefits to the domestic financial market.
The bigger, more robust the market, the more attractive it will be to competitors. There are still many competitors large enough to attempt to secure a prominent position in the market, though the identity of these competitors has changed considerably over time. Therefore, in open financial markets the entry of foreign financial institutions into domestic financial markets can bring sizeable benefits, as increased competition can help to enhance efficiency in the financial sector. In conclusion, a new global economic and financial system is evolving at a rapid pace right before our eyes.
Financial integration has given access to world capital markets to more people, providing for a better allocation of savings and investment as well as more and sophisticated instruments to better manage risks. At the same time, however, it has also brought new global challenges. It can be overcome in two dimensions: on the internal side, by strengthening its macroeconomic fundamentals and continually revising its legal and regulatory frameworks; and, on the external side, by adopting a more active role within the global community of central banks, regulators and other uthorities to improve the international financial architecture. References: Stijn Claessens and Sergio L. Schmukler. (2007). IMF Working Paper: International Financial Integration through Equity Markets: Which Firms from Which Countries Go Global? Retrieved from http://www. imf. org/external/pubs/ft/wp/2007/wp07138. pdf Otmar Issing. (2000). The globalisation of financial markets. Retrieved, from http://www. ecb. int/press/key/date/2000/html/sp000912_2. en. html Fukao. M and Hanazaki. M.
Internationalisation of Financial Markets and The Allocation of Capital. Retrieved from www. oecd. org/dataoecd/21/19/35589290. pdf Roy C. S. Globalisation of Financial Market. Chapter 1: Integration of World Financial Markets: Past, Present, and Future. Retrieved from http://media. wiley. com/product_data/excerpt/10/04712292/0471229210. pdf Rodrigo, d, R. (2007) International Monetary fund. Economic Growth and Financial Market Development: A Strengthening Integration. Retrievedfrom http://www. imf. org/external/np/speeches/2007/082207. htm
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