Globalization has been escalated by the interdependence between nations around the world. To facilitate this interdependence, countries have been trading their currencies in the foreign exchange market. This has led to the emergence of the global financial markets (Altman, 2009). The modern global financial market is deemed to have emerged from the international operations of the British banks. These bans played a big role in financing the trade within the British Empire. In the twentieth century, the world demonstrated a strong trend in the globalization n of the world’s financial markets (Murray, 2006). Financial markets have become truly global due to the removal of barriers to cross boarder flow of capital in many countries. This has been so especially during the last two decade of the twentieth century. According to Meric & Gulser, “a truly global financial market allows investors to benefit from international diversification by making it possible for them to invest in different countries’ securities and enable firms to raise funds from all parts of the world” (Meric & Gulser, 2001, 3). This trend could be demonstrated by the rise in volume of global equity transactions and the value of global bonds by 1000 percent and 500 percent respectively during 1980s and early 1990s. The globalization of the world’s financial markets has contributed significantly to the welfare of nations. However, the history of global finance is also replete with many crises. Between 1975 and 1999, there are many banking and currency crises that have occurred. These crises have greatly affected the globalization of the world’s financial markets. For example, the global stock market crash of October 1989 and market crisis of 1997-1998 indicated that the world’s national financial markets are closely linked to one another (Markus, 2009).
Global financial markets play a big role in developing economies of third world countries in the world. The international financial corporation has a department called global financial market department that plays a significant role in boosting the development of third world economies (Croucher, 2004).
This paper affords a Critical analysis the effect of a financial crisis in highly globalised financial markets.
Issues Related to Globalization and Integration of Financial Markets
It has been argued that a holistic approach is necessary to enable stabilization of international finance and global security through the process of globalization. The dynamism of global system and investments and business activities of multinational corporations has a big role in the process of integration of the financial markets. Though globalization and financial market integration are deemed to be very paramount in boosting the growth of world’s economies, there are many issues that are debatable related to them. Integration of financial markets has enabled the emerging market economies to be part of the world’s financial markets and this ha raised the issue of whether the emerging economies are being developed of exploited. Though through this integration, the domestic investors can purchase assets from the foreign markets and foreign investors from the domestic markets, the emerging economies still suffer heavy prices of those assets. The rate of foreign exchange applicable may not reflect parity especially when a developing economy purchases assets from a developing one (Altman, 2009). It does not also reflect fair trade between the nations during the periods of inflations. For instance, for weak economies, importing commodities from developed countries like the US is so expensive during inflationary periods. Developed and well to do economies may also drain the developing countries of resources (Kolb, 2010). This to a large extent may make the developing countries to be more and more underdeveloped.
Globalization in the post-modern world defines the dimensions of interaction of people and institutions in the entire world (Bhagwati, 2004). Most of the aspects of globalization have been under criticism for their disadvantages in the world’s market. These aspects include the high speed growth of information technology and quick movement of capital in the international market. There are also others like efficiency in trade and availability of a large variety of products. It has been argued by many that globalization brings up many issues that causes more harm to people than good. For instance, the rapid changes in technology and world interaction escalates poverty and unemployment levels. The sense claimed is that technology has come to replace human capital in the job market. Globalization has increases use of machines in production and this has reduced the employment opportunities available (Meric & Gulser, 2010). With mechanization of production activities, only the few elites benefit because their expertise is needed in operating the machines. This leaves many jobless and escalates poverty.
The other issue related to globalization is proliferation of social ills like HIV/AIDS which affect the people. Due to free trade between nations, the movement of people from one nation to another has also increased. This has also caused the increase in the cases of social ills as infected persons move and interact with others. Countries with very high prevalent rate of these social ills drag in economic growth and development. These counties expend a lot of resources in devising and implementing prevention measures for those social ills.
Illegal trade like drug trafficking have also come up. This is another issue that is reflecting the negative of globalization in the today’s world. Drug trafficking has hit many economies of the world because it has escalated the cases of money laundering. Other countries might have economic sanctions imposed on them in the rate of drug trafficking soars. Productive population of these countries has also been destroyed by these drugs. This has also led to economic degradation and economic growth. Closely connected to drug trafficking is the issue of weapons and people trafficking. Weapons of mass destruction and others used in causing violence and terrorism are also very rampant in the world today. People trafficking are also very common in the world today and it is also detrimental to economic growth.
The natural environment in the world has also suffered a lot due to the growth in technology. The use of chemicals and industrial emissions has deteriorated the natural environment. The work conditions have also become very dangerous because these chemicals are also affecting the health of workers. All these aspects are detrimental to economic growth.
Globalization and integration of financial markets have played a big role in developing economies but have also causes much harm to the same economies (Steger, 2009). There is need for another form of globalization that will seek a sense of global solidarity that will minimize its side effects and boost economic growth. With the current integration of the financial markets and globalization, the problem facing one country affects other countries affected by it.
Review the financial crisis
Financial crisis is used to refer to the situation where financial institutions or assets lose large part of their value due to economic shake ups in a given place. If there is economic recession in any given country, there is likelihood of assets and financial assets losing great value and causing financial crisis (Moshirian, 2003). There have been many crises in the world and others affecting an individual country but which later spreads to other parts of the world. The spread of the financial crises in the world is due to the interdependence of countries. Globalization and financial market integration are the factors responsible for the spread of the financial crises from one country to the rest of the world. Many financial crises of the 19th and the 20th centuries are characterized by the banking panics and recessions resulting from these panics. The most recent financial crisis occurred in 2007-2009 and was a global financial crisis. The main cause of this crisis was the failure of the banking and the financial system. It stated in the US and then spread to other parts of the world where the financial system also failed greatly. There are other situation that are also referred to as financial crises like stock market crashes, bursting of financial bubbles or cases where there is crisis of the country’s currency. Wherever there are financial crises, there is rampant loss of paper wealth or what is generally described as wealth measure in monetary value. Paper wealth is basically communicated by the prices that are attached to various assets in the economy. The prices reflect the value of those assets they measure.
Despite the attempt by the economists to develop theories to address the causes of financial crises and possible solutions, financial crises are still a regular occurrence around the world (Ghosh & Ariff, 2004). This shows that there is no single theory that fully suffices the cure for financial crises. The spread of financial crises from one area to the rest of the world however is escalated the current globalization and financial markets integration.
Financial crises exists in different forms depending on the financial sector of the economy where is begins. If financial crisis arises from the banking sector due to bank run or other factors, then is referred to as banking crisis. A good example of bank run occurred in 1931 in the US or credit crunch of 1980s which was caused by the savings and loans crisis. Another form of financial crisis is the speculative bubble and crashes which occurs when the prices of assets exceeds present value of the stream of income they are expected to earn by their maturity period. The investors may buy those assets for purposes of selling them in future. If the price of such assets crashes in future, the investors will lose a great value of their investment. The situation is termed as bursting of the bubble and results into financial crisis. The other crisis is called the international financial crisis which ours as a result of sudden currency devaluation of a country which has a fixed exchange rate or sovereign debt default. Sudden devaluation of the country’s currency may cause balance of payment crisis which will affect many countries trading with that country.
Several factors are considered by economists as the main causes of financial crises. For instance, leverage or borrowing to finance investments may cause financial crisis in case the investment fails. The investor loses more that he has in such case and makes others suffer the same loss especially the institutions from whom the funds were borrowed. Also in case of mismatch between the asset and liability especially in the case of banks is the major cause of bank runs. There is also a contagion cause where the crises are spread from one institution to another. There are other causes of financial crises but the major ones are the three mentioned.
Effects of the financial crisis
Financial crises have enormous effects on the world’s economies and the financial markets. For instance, the recent global financial crisis of 2008 resulted to USD 2.8 trillion losses by world’s financial firms due to continuing credit crisis. The tax payers globally also spent about 8 trillion US dollars in their attempts to shore up the world’s banks. Following the recent financial crisis of 2007-2009 also, the current deficit of the US declined from 2006 through 2009. It was 6.61% of the GDP in 2006 last quarter, 2.9% in 2009 first quarter and the second quarter of the same year it stood at 2.8%. There are other effects on public finance due to bail out of banks by governments (Shin, 2009a). This may result to budget deficits and inability to achieve financial targets by governments. The other effect of financial crisis is the increase in volatility of the foreign currencies against domestic currencies. This has great effect on the pricing of commodities traded at the international level. They may become too expensive in some countries and may hamper trade between them.
Following the 2008 global financial crisis, many economies stagnated in growth and other had to borrow in order to finance their budgets. This borrowing increased their debt to GDP ratios because even the productivity declined. Spain was one of the most hit economies during the time and the table below summarizes that data.
Governments also resort to guaranteeing inter-bank loans that are aimed at encouraging commercial banks to lend to each other. This enables the banks to save each other of bank run which would otherwise leave the government with the option of bailing them out. Some places like Asia following the financial crisis of 2008 suffered great shrinking demand for its products.
Central banks of many countries will also drastically cut the interest rates in the events of financial crisis and also reduce the cash reserve requirements. These measures are meant to improve liquidity in the economy.
What were the remedial actions?
Various actions were proposed regarding the remedial actions for the financial crises. Such remedies include the negotiation with the European Union to pre-commit to a stable euro-dollar exchange rate that will help stabilize the exchange rate for other nations. The developing countries should also not be pressurized to regulate or tax portfolio investments and foreign borrowing (Blanchard, 2009). This will help them stabilize their economies and avoid the effects of financial crisis. To contain the situation, it is also important to have greater financial transparency in banks regarding the disclosure of lending to hedge funds and foreign exposure.
In my opinion, what more could be done
To avoid the occurrence of the financial crises in the future, it is important to conduct thorough research on the causes of such crises and device mechanisms of avoiding them in future. It has been noted that the same factors that caused the great depression in 1929-1931 still have effects in the financial crises occurring today. This means that the main causes of financial crises are yet to be dealt with despite being identified. Based on past crises, there should be a way of detecting the symptoms or signs that are likely to result to crises. Economist profession should be improved and supported by governments so that they may have enough resources for use in detecting and solving the crises. For example, the recent financial crises of 2008 which was partly caused by the unbalanced changes in the price of houses that caused people to default the mortgages resulting in to the collapse of financial institutions. The trend for the prices have been as under.
The economists could have noted the dangerous trend and decide the way forward.
The recent globalization and financial market integration have contributed greatly to the spread of the financial crises from one country to the other parts of the world. The rate of interdependence among nations is a result of globalization and it facilitates the spread of financial crises. The recent financial crisis of 2007-2009 started in the US and it spread to the rest of the world at a very high rate. These financial crises have very severe consequences to the country’s economy and collapse of many sectors. There is therefore need to avoid the occurrence of financial crises in future.
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