## IMF Survey: Putting Financial Globalization to Work _IMF News, August 16, 2007_ ## Source details **Canonical URL:** [IMF Survey: Putting Financial Globalization to Work](https://www.imf.org/en/news/articles/2015/09/28/04/53/sores0816a) ## Other formats - [Markdown version](/en/news/articles/2015/09/28/04/53/sores0816a/index.md) - [Structured JSON version](/en/news/articles/2015/09/28/04/53/sores0816a/index.json) - [Bundle manifest](/en/news/articles/2015/09/28/04/53/sores0816a/bundle-manifest.json) ## Bibliographic details - Authors: Paolo Mauro, Jonathan D. Ostry IMF Research Department August - Published: August 16, 2007 --- ### Overview - Capital flows to emerging market and developing countries are soon expected to top $1 trillion. - Publication: IMF Survey by Paolo Mauro and Jonathan D. Ostry, IMF Research Department, August 16, 2007. - The central question: Is financial globalization primarily an opportunity to share risk internationally and finance investment projects that are good for growth, or is it a source of possible volatility and crises caused by sudden reversals in capital flows? ### Key points - The issue: Balance risks and benefits of financial globalization for different country groups. - Policy considerations: - Opening up to FDI at an early stage is likely to benefit all countries. - Liberalizing short-term debt-creating inflows should account for a country's financial market development, perceived institutional quality, and macroeconomic policies. - Delays in opening up also carry costs. - Policy implications: Capital account liberalization should be pursued as part of a broader reform package encompassing a country's macroeconomic policy framework, domestic financial system, and prudential regulation. ### Main empirical lessons (from 30 years of data) - Lesson 1: - Advanced economies largely benefit from free movement of capital. - Emerging market and developing countries should meet certain thresholds—quality of institutions and policymaking and level of domestic financial development—before opening up the capital account; otherwise financial liberalization can lead to macroeconomic volatility. - Lesson 2: - There are costs to being overly cautious about capital flows: opening up may stimulate domestic financial sector development and efficiency improvements that support growth. ### Effects of financial globalization - Theoretical benefits: - Encourages international risk sharing. - Stabilizes spending by households and the government by allowing international capital to supplement domestic capital. - Fosters economic growth. - Empirical findings: - Advanced countries have benefited from risk sharing; emerging market and developing countries show little evidence of similar benefits. - International financial integration has increased volatility, but mainly in countries with relatively weak domestic financial sectors and institutions. - Impact on growth: - FDI encourages long-run growth: an increase in FDI of 10 percentage points of GDP increases growth by 0.3 percentage points on average. - The impact of debt on growth depends on whether the money is put to good use, influenced by the quality of policies and institutions. - Financial globalization does not seem to make countries more vulnerable to crisis; crises are, if anything, less frequent in financially open economies. - Financially open countries with well-developed domestic financial systems, strong institutions, sound policies, and open trade have an even lower risk of experiencing a crisis. ### Factors influencing volatility and growth outcomes - Financial sector development: Well-developed financial markets help moderate boom-bust cycles triggered by surges and sudden stops in financial flows. - Institutional quality: Strong institutions—including the rule of law, freedom from corruption, and government efficiency—direct financial flows toward FDI and portfolio equity, facilitating international risk sharing and growth. - Sound macroeconomic policies: Weak macroeconomic policies can lead financial openness to result in excessive borrowing and debt accumulation, increasing crisis risk. - Trade integration: Openness to trade reduces likelihood of sudden stops in inflows and current account reversals and can mitigate crisis effects by facilitating recovery. ### Costs of capital controls - Lower international trade: - Capital controls encourage fraud through mis-invoicing. - New research suggests capital controls increase the cost of engaging in international trade even for firms that do not seek to evade controls. - Higher cost of capital: - Capital controls make it more difficult and expensive for small firms to raise capital. - The cost of borrowing is also higher (about 5 percent on average) for multinationals located in countries with capital controls than in countries without them. - Distortions in the economy: - Economic behavior is likely to be distorted as individuals and firms seek ways to evade measures, potentially favoring well-connected firms over more efficient ones. - Administrative costs: - Governments spend significant resources on monitoring compliance with capital controls and on updating them to close loopholes and limit evasion. ### Policy recommendations - Pursue capital account liberalization as part of a broader reform package covering macroeconomic policy, domestic financial system, and prudential regulation. - Liberalize long-term, non-debt-creating flows (such as FDI) before liberalizing short-term, debt-creating inflows. - Before liberalizing other types of flows, ensure the country meets thresholds where net benefits of financial globalization become positive. - Assess readiness of the financial sector and level of institutional development before opening the capital account, while weighing risks of opening against efficiency costs of capital controls. ### Looking ahead - Net benefits from financial integration are likely to become more substantial in the future because: - Markets are moving toward a more equity-based structure, which tends to benefit international risk sharing and growth. - Many emerging market countries have reformed their economies, bringing them up to thresholds where benefits of financial globalization begin to outweigh risks. - These developments should make it easier for countries to reap the benefits of financial globalization in the years ahead. *IMF Survey: Putting Financial Globalization to Work — IMF Research Department, Paolo Mauro and Jonathan D. Ostry, August 16, 2007.* --- ## Content in this bundle - [Res0816aapdf (PDF)](/-/media/websites/imf/imported/external/arabic/pubs/ft/survey/so/2007/res0816aapdf.pdf){rel="external" type="application/pdf"} - [Res0816ajpdf (PDF)](/-/media/websites/imf/imported/external/japanese/pubs/ft/survey/so/2007/res0816ajpdf.pdf){rel="external" type="application/pdf"} - [Res0816arpdf (PDF)](/-/media/websites/imf/imported/external/russian/pubs/ft/survey/so/2007/res0816arpdf.pdf){rel="external" type="application/pdf"} --- ## References - [https://www.imf.org/en/News/country-focus](https://www.imf.org/en/News/country-focus) - [PRESS CENTER](http://presscenter.imf.org/) - [IMF Research](https://www.imf.org/en/news/search) - [Read the discussion paper](http://www.imf.org/external/np/res/docs/2007/0607.htm) - [Slideshow: capital flows](https://www.imf.org/external/pubs/ft/survey/so/chart/index.htm) - [Two faces of globalization](https://www.imf.org/external/pubs/ft/fandd/2007/03/index.htm) - [Financial globalization documents](https://www.imf.org/external/ns/cs.aspx?id=188) - [Who's driving financial globalization?](https://www.imf.org/external/pubs/ft/survey/so/2007/NUM0816A.htm) - ["Reaping the Benefits of Financial Globalization,"](https://www.imf.org/external/np/res/docs/2007/0607.htm) - [https://www.imf.org/en/home](https://www.imf.org/en/home) _Source: https://www.imf.org/en/news/articles/2015/09/28/04/53/sores0816a_