International finance

From Wikipedia, the free encyclopedia

For the academic journal, see International Finance (journal).

International finance is the branch of economics that studies the dynamics of exchange rates, foreign
investment, and how these affect international trade. It also studies international projects, international
investments and capital flows, and trade deficits. It includes the study of futures, options and currency swaps.
International finance is a branch of international economics.

Important theories in international finance include the Mundell-Fleming model, the optimum currency

area (OCA) theory, as well as the purchasing power parity (PPP) theory. Whereas international trade theory
makes use of mostly microeconomic methods and theories, international finance theory makes use of
predominantly macroeconomic methods and concepts.

International finance, an offshoot of economics, encompasses a detailed

understanding of exchange rates and foreign investment and their impact on
international trade. Analysis of international projects, overseas investments, cross
border capital flows, trade deficits, currency swaps and global financial markets are
some of its key areas of study. Individual investors usually focus on that part of
international finance that deals with global futures and options and the forex market.

International Finance: Prominent Institutes

There are various global bodies regulating different aspects of international finance.
These include:

 IFC: International Finance Corporation is a prominent entity supporting sustainable

investments in the private sector ofdeveloping countries to stimulate their growth. It is the
biggest source of multilateral loans and equity financing for projects undertaken by the private
sector in developing countries. IFC plays a key role in providing technical assistance to
businesses and governments of developing countries.
 IMF: International Monetary Fund monitors the balance of payments of its
member countries. It is regarded as the lender of last resort for countries facing a
financial crisis, such as deficits and currency crisis. The relief amount is relative
to thesize of the country’s contribution in the global trading system.

 World Bank: It funds the development of projects, mainly in developing countries,

that are not financed by the privatesector.
  WTO: World Trade Organization resolves multilateral and bilateral trade disputes
in addition to the negotiation of different trade agreements among its various
member nations.

International Finance: Benefits

Some of the benefits of international finance are:

 Access to capital markets across the world enables a country to borrow during tough
times and lend during good times.

 It promotes domestic investment and growth through capital import.

 Worldwide cash flows can exert a corrective force against bad government policies.

 It prevents excessive domestic regulation through global financial institutions.

 International finance leads to healthy competition and, hence, a more effective banking
system.

 It provides information on the vital areas of investments and leads to effective capital
allocation.

International finance promotes the integration of economies, facilitating the easy flow of
capital. The free transfer of fundswould eventually result in more equality among
countries that are a part of the global financial system.

International Finance is a highly selective ISI-accredited journal featuring literate

and policy-relevant analysis in macroeconomics and finance. Specific areas of focus
include:

 · exchange rates
· monetary policy 
· political economy
· financial markets
· corporate finance
· transition economics

endorsement

The journal's readership extends well beyond academia into national treasuries and
corporate treasuries, central banks and investment banks, and major international
economic organizations.

"International Finance has grown into an influential publication bridging cutting-edge

academic research on monetary policy, financial markets, and international finance
with practical applications. It is essential reading for policy professionals and
academics interested in policy applications of international finance."
Glenn Hubbard, Columbia University Graduate School of Business

"There is no question in my mind that International Finance has found an important

niche - high quality papers on current issues in international finance, readable yet
rigorous."
Olivier Blanchard, Massachusetts Institute of Technology

"There is no other journal that provides the same mix of high scholarly standards,
policy relevance, and accessibility."
Barry Eichengreen, University of California, Berkeley

"International Finance has established itself as one of the leading journals in

international finance. It is widely read and often quoted."
Paul De Grauwe, Katholieke Universiteit Leuven

"International Finance has established itself as the premier journal providing policy-

related papers on international monetary issues . . . [it] has become well-respected,
widely read, and influential."
Richard Brealey, London Business School

"The track record now established by International Finance, during the first seven
years of the journal's existence, is highly impressive . . . Many thought that serious,
first-rate research economists from the academic world would decline to play in such
a game. They were wrong. The list of contributors speaks for itself."
Benjamin Friedman, Harvard University

"Until the launch of International Finance, there was no logical outlet for research on
international financial markets with a policy angle . . . The journal fulfils this need
with a rigorous yet accessible presentation."
Andrew Karolyi, Ohio State University

"International Finance occupies a special, but important, niche in the universe of

international macro publications . . . During my time in the US government, I made
certain I knew what articles were in IF."
Menzie Chinn, University of Wisconsin, Madison

"Since its creation, International Finance has effectively filled the gap between

scholarly research and practical policy issues. It combines rigor and relevance and
 has become an essential tool for researchers, policymakers and financial market
participants working on international monetary and financial issues."
Charles Wyplosz, Graduate Institute of International Economics, Geneva

"International Finance provides economic analysis of high standards, frequently by

very top academic economists, but with a strong emphasis on policy."
Frederic Mishkin, Columbia University Graduate School of Business

"International Finance is more exciting, more readable, and more influential than any
other non-association based journal in macroeconomics and finance. It set out to
respond to the undersupply of rigorously argued policy relevant refereed articles in
those areas, grabbed hold of that niche, and if anything increased demand for its
product."
Adam Posen, Institute for International Economics

"International Finance is both authoritative in the monetary and financial fields that it
covers and highly readable . . . I regard International Finance as a 'must read' in my
work."
Charles Goodhardt, London School of Economics

International Finance
Become familiar with the various government programs designed to help your company finance its
export transactions, and give it the capital to carry out its export operations.

We recommend that you review this information and then contact your local Commercial Service
Trade Specialists to discuss how these programs can help you achieve your international sales goals.

Financing

Do you need working capital loans? Does your foreign buyer need financing to buy your products? Do
they prefer lease financing? Check out the U.S. Government International Financing Programs.

Insurance

The U.S. Government offers U.S. companies Insurance and Risk Mitigation policies that cover export
transactions and for overseas investments. Coverage includes losses for non-payment, currency
inconvertibility, asset expropriation and political violence.

Grants

The U.S. Government provides grants to U.S. firms to conduct feasibility studies on infrastructure
projects and to train the foreign business community and government officials on U.S. business
practices, regulatory reform and other economic development activities.

International finance

In recent years the financial sector has emerged as an increasingly important point of leverage through which the
environmental and social impacts of development can be influenced. As the financial sector gears up to manage
environmental risk in its business, WWF is working with a range of institutions to improve environmental performance
 In their assets and operations - energy and water management and other activities focused on the
institution’s “footprint”
 Through capacity building and mentoring activities that help to build the capacity of bank staff – there is a
critical need to scale up the ability of deal teams to understand environmental and social risks associated with their
decisions
 In the development of risk management tools and procedures that can be applied to lending and
investments
In parallel we are also working with the financial sector to develop and deliver innovative products based on the
opportunities that are no emerging for new markets and businesses based on environmental goods and services. Our
work on carbon finance, forestry and ecosystem services is creating new opportunities for finance to leverage change
for the benefit of ecosystems, people and businesses.

WHAT IS THE STUDY OF

INTERNATIONAL FINANCE ?
􀂃 Making investment and financing
decisions in a global market.
􀂃 Cash flows associated with these
decisions
􀂃 Risks associated with these cash flows
􀂃 The international financial markets

The Objectives of International Financial Regulation

t the beginning of the 21st century, financial markets are more international
than ever before.

Capital markets were highly integrated before the First World War, with
massive flows of funds from developed to developing countries, but the
degree of integration fell sharply during the next 50 years, and capital
movements were often highly controlled.

Easy flow across borders

Now, however, "globalized" capital markets are back, but with a difference
— capital transactions seem to be mostly a rich-rich affair, a process of
diversification finance rather than development finance.

It is not true to say, as some do, that we live in a borderless world. But
finance certainly flows more easily across borders than do goods and
services.
A small number of marketplaces, notably New York and London, increasingly
dominate transactions in both cash and derivatives markets. Technology has
allowed them to take on additional business from anywhere in the globe at
very low cost.

That, combined with the search for speed and liquidity, and a kind of "winner takes all"
phenomenon, is driving further geographical concentration.

But as concentration in the financial industry has grown, the global economy itself has
become multi-polar.

Biq questions

The major questions to be examined in the context of Bretton Woods II are:

 How well suited is the system of financial regulation to today’s capital markets?

 Has it kept pace with the massive growth in cross-border activity and the changed
patterns of intermediation?

 Are changes needed to strengthen our defenses against both financial instability and
market abuse?

Many would argue that the answers to these questions are clear, and that the system is
obviously inadequate. The collapse of Long Term Capital Management in 1998
and the Asian financial crisis at the end of the 1990s crystallized concerns
about whether the regulatory system, pieced together in an ad-hoc manner
over the previous two decades, was able to address the challenges of
globalization.

Creating a new authority

Some argued then for the creation of a world financial authority with wide-
ranging power to handle cross-border regulatory issues.

After some debate, these calls were rejected by the G7 finance ministers in
favor of more modest changes — 

notably the establishment of the Financial Stability Forum as a coordinating

mechanism

 between existing structures and an increased focus by the

IMF and the World Bank on the quality of financial regulation in
member countries.

Since then, further modest improvements have been made, but

recent market developments have once again generated
questions about their adequacy.

Can the regulators work together effectively to supervise a

consolidated system of exchanges? Have hedge funds, and more
recently, private equity funds, created threats to financial
stability and to the integrity of traded markets which the system
is not designed to address?

21st century problems

How can the rapid growth of Islamic finance — with its rejection
of the traditional concept of interest — be accommodated in a
system designed well before it began to emerge as a significant
marketplace phenomenon?

Specifically in the European Union, there are those who argue

that a single integrated financial market, especially those parts
of it with a single currency, necessarily requires a creation of
single regulator.

Is the regulation of the global financial system still fit for

purpose, if it ever was? If it is under strain, what changes might
realistically be made to improve its robustness?

Editor's Note: This feature is adapted from "Global Financial

Regulation: The Essential Guide," by Howard Davies and David
Green. Reprinted by arrangement with Polity Books. Copyright
(c) 2008 by Howard Davies and David Green. All rights
reserved.

The Benefits Of International Finance

When once we have recognized how close is the connection between

finance and trade, we have gone a long way towards seeing the
greatness of the service that finance renders to mankind, whether it works
at home or abroad. At home we owe our factories and our railways and all
the marvellous equipment of our power to make things that are wanted, to
the quiet, prosaic, and often rather mean and timorous people who have
saved money for a rainy day, and put it into industry instead of into
satisfying their immediate wants and cravings for comfort and enjoyment
It is equally, perhaps still more, true, that we owe them to the brains and
energy of those who have planned and organized the equipment of
industry, and the thews and sinews of those who have done the heavy
work. But brain and muscle would have been alike powerless if there had
not been saving folk who lent them raw material, and provided them with
the means of livelihood in the interval between the beginning of an
industry and the day when its product is sold and paid for.

Abroad, the work of finance has been even more advantageous to

mankind, for since it has been shown that international finance is a
necessary part of the machinery of international trade, it follows that all
the benefits, economic and other, which international trade has wrought
for us, are inseparably and inevitably bound up with the progress of
international finance. If we had never fertilized the uttermost parts of the
earth by lending them money and sending them goods in payment of the
sums lent, we never could have enjoyed the stream that pours in from
them of raw material and cheap food which has sustained our industry,
fed our population, and given us a standard of general comfort such as
our forefathers could never have imagined. It is true that at the same time
we have benefited others, besides our own customers and debtors. We
have opened up the world to trade and other countries reap an advantage
by being able to use the openings that we have made. It is sometimes
argued that we have in fact merely made the paths of our competitors
straight, and that by covering Argentina with a network of railways and so
enormously increasing its power to grow things and so to buy things, we
have been making an opportunity for German shipbuilders to send liners
to the Plate and for German manufacturers to undersell ours with cheap
hardware and cotton goods. This is, undoubtedly, true. The great
industrial expansion of Germany between 1871 and 1914, has certainly
been helped by the paths opened for it all over the world by English trade
and finance; and America, our lusty young rival, that is gaining so much
strength from the war in which Europe is weakening itself industrially and
financially, will owe much of the ease of her prospective expansion to
spade-work done by the sleepy Britishers. It may almost be said that we
and France as the great providers of capital to other countries have made
a world-wide trade possible on its present scale. The work we have done
for our own benefit has certainly helped others, but it does not, therefore,
follow that it has damaged us.

Looking at the matter from a purely business point of view, we see that
the great forward movement in trade and finance that we have led and
fostered, has helped us even by helping our rivals. In the first place, it
gives us a direct benefit as the owners of the mightiest fleet of merchant
ships that the world has seen. We do nearly half the world's carrying
trade, and so have reason to rejoice when other nations send goods to
the ports that we have opened. By our eminence in finance and the
prestige of a bill of exchange drawn on London, we have also supplied
the credit by which goods have been paid for in the country of their origin,
and nursed until they have come to the land in which they are wanted,
and even until the day when they have been turned into a finished product
and passed into the hands of the final consumer. But there is also the
indirect advantage that we gain, as a nation of producers and financiers,
from the growing wealth of other nations. The more wealthy they grow,
the more goods they produce want to sell to us, and they cannot sell to us
unless they likewise buy from us. If we helped Germany to grow rich, we
also helped her to become one of our best customers and so to help us to
grow rich. Trade is nothing but an exchange of goods and services. Other
countries are not so philanthropic as to kill our trade by making us
presents of their products and from the strictly economic point of view, it
pays us to see all the world, which is our market, a thriving hive of
industry eager to sell us as as it can. It may be that as other countries,
with the help of our capital and example, develop industries in which we
have been pre-eminent, they may force us to supply them with services of
which we are less proud to be the producers. If, for example, the
Americans were to drive us out of the neutral markets with their cotton
goods, and then spent their profits by revelling in our hotels and thronging
out theatres and shooting in Highland deer forests, and buying positions
in English society for their daughters we should feel that the course of
industry might still be profitable to us, but that it was less satisfactory. On
the other hand, it would be absurd for us to expect the rest of the world to
stand still industrially in order that we may make profits from producing
things for it that it is quite able to make for itself.

The Benefits Of International Finance. Part 2

For the present we are concerned with the benefits of international

finance, which have been shown to begin with its enormous importance
as the handmaid of international trade. Trade between nations is
desirable for exactly the same reason as trade between one man and
another, namely, that each is, naturally or otherwise, better fitted to grow
or make certain things, and so an exchange is to their mutual advantage.
If this is so, as it clearly is, in the case of two men living in the same
street, it is evidently very much more so in the case of two peoples living
in different climates and on different soils, and so each of them, by the
nature of their surroundings, able to make and grow things that are
impossible to the other. English investors, by developing the resources of
other countries, through the machinery of international finance, enable us
to sit at home in this inclement isle, and enjoy the fruits of tropical skies
and soils. It may be true that if they had not done so we should have
developed the resources of our own country more thoroughly, using it less
as a pleasure ground, and more as a farm and kitchen garden, and that
we should have had a larger number of our own folk working for us under
our own sky. Instead of thriving on the produce of foreign climes and
foreign labour that comes to us to pay interest, we should have lived more
on home-made stuff and had more healthy citizens at work on our soil. On
the other hand, we should have been hit hard by bad seasons and we
should have enjoyed a much less diversified diet. As it is, we take our tea
and tobacco and coffee and sugar and wine and oranges and bananas
and cheap bread and meat, all as a matter of course, but we could never
have enjoyed them if international trade had not brought them to our
shores, and if international finance had not quickened and cheapened
their growth and transport and marketing. International trade and finance,
if given a free hand, may be trusted to bring about, between them, the
utmost possible development of the power of the world to grow and make
things in the places where they can be grown and made most cheaply
and abundantly, in other words, to secure for human effort, working on the
available raw material, the greatest possible harvest as the reward of its
exertions.

All this is very obvious and very material, but international finance does
much more, for it is a great educator and a mighty missionary of peace
and goodwill between nations. This also is obvious on a moment's
reflection, but it will be rejected as a flat mis-statement by many whose
opinion is entitled to respect, and who regard international finance as a
bloated spider which sits in the middle of a web of intrigue and chicanery,
enticing hapless mankind into its toils and battening on bloodshed and
war. So clear-headed a thinker as Mr. Philip Snowden publicly expressed
the view not long ago that "the war was the result of secret diplomacy
carried on by diplomatists who had conducted foreign policy in the
interests of militarists and financiers,"[4] Now Mr. Snowden may possibly
be right in his view that the war was produced by diplomacy of the kind
that he describes, but with all deference I submit that he is wholly wrong if
he thinks that the financiers, as financiers, wanted war either here or in
Germany or anywhere else. If they wanted war it was because they
believed, rightly or wrongly, that their country had to fight for its existence,
or for something equally well worth fighting for, and so as patriotic
citizens, they accepted or even welcomed a calamity that could only
cause them, as financiers, the greatest embarrassment and the chance of
ruin. War has benefited the working classes, and enabled them to take a
long stride forward, which we must all hope they will maintain, towards the
improvement in their lot which is so long overdue. It has helped the
farmers, put fortunes in the pockets of the shipowners, and swollen the
profits of any manufacturers who have been able to turn out stuff wanted
for war or for the indirect needs of war. The industrial centres are bursting
with money, and the greater spending power that has been diffused by
war expenditure has made the cheap jewellery trade a thriving industry
and increased the consumption of beer and spirits in spite of restrictions
and the absence of men at the front. Picture palaces are crammed
nightly, furs and finery have had a wonderful season, any one who has a
motor car to sell finds plenty of ready buyers, and second-hand pianos
are an article that can almost be "sold on a Sunday." But in the midst of
this roar of humming trade, finance, and especially international finance,
lies stricken and still gasping from the shock of war. When war comes, the
price of all property shrivels. This was well known to Falstaff, who, when
he brought the news of Hotspur's rebellion, said "You may buy land now
as cheap as stinking mackerel," To most financial institutions, this
shrivelling process in the price of their securities and other assets, brings
serious embarrassment, for there is no corresponding decline in their
liabilities, and if they have not founded themselves on the rock of severest
prudence in the past, their solvency is likely to be imperilled. Finance
knew that it must suffer. The story has often been told, and though never
officially confirmed, it has at least the merit of great probability, that in
1911 when the Morocco crisis made a European war probable, the
German Government was held back by the warning of its financiers that
war would mean Germany's ruin. It is more than likely that a similar
warning was given in July, 1914, but that the war party brushed it aside.
And now that war is upon us, we are being warned that high finance is
intriguing for peace. Mr. Edgar Crammond, a distinguished economist and
statistician, published an article in the Nineteenth Century of September,
1915, entitled "High Finance and a Premature Peace," calling attention to
this danger and urging the need for guarding against it. First too bellicose
and now too pacific, High Finance is buffeted and spat upon by men of
peace and men of war with a unanimity that must puzzle it. It can hardly
err on both sides, but of the two accusers I think that Mr. Crammond is
much more likely to be right. But my own personal opinion is that both
these accusers are mistaken, that the financiers never wanted war, that if
(which I beg to doubt) diplomacy conducted in their interests produced the
war, that was because diplomacy misunderstood and bungled their
interests, and that now that the war is upon us, the financiers, though all
their interests urge them to want peace, would never be parties to
intrigues for a peace that was premature or ill-judged

Scope Of International Finance

Increasing Interdependence in the Global Economy

Financial management of a company is a complex process, involving its

own methods and procedures. It is made even more complex because of
the globalization taking place, which is making the world’s financial and
commodity markets more and more integrated. The integration is both
across countries as well as markets. Not only the markets, but even the
companies are becoming international in their operations and approach.
This changing scenario makes it imperative for a student of finance to
study international finance.

When a firm operates only in the domestic market, both for procuring
inputs as well as selling its output, it needs to deal only in the domestic
currency. As companies try to increase their international presence, either
by undertaking international trade or by establishing operations in
foreign countries, they start dealing with people and firms in various
nations. Since different countries have different domestic currencies, the
question arises as to which currency should the trade be settled in. The
settlement currency may either be the domestic currency of one of the
parties to the trade, or may be an internationally accepted currency. This
gives rise to the problem of dealing with a number of currencies. The
mechanism by which the exchange rate between these currencies (i.e., the
value of one currency in terms of another) is determined, along with the
level and the variability of the exchange rates can have a profound effect
on the sales, costs and profits of a firm. Globalization of the financial
markets also results in increased opportunities and risks on account of the
possibility of overseas borrowing and investments by the firm. Again, the
exchange rates have a great impact on the various financial decisions and
their movements can alter the profitability of these decisions.

In this increasingly globalize scenario, companies need to be globally

competitive in order to survive....

Scope of International Finance

 
 
Increasing Interdependence in the Global Economy
 
 
Financial management of a company is a complex process,
involving its own methods and procedures. It is made even
more complex because of the globalization taking place, which is
making the world’s financial and commodity markets more and
more integrated. The integration is both across countries as well
as markets. Not only themarkets, but even the companies are
becoming international in their operations and approach. This
changing scenario makes it imperative for a student of finance to
study international finance.
 
 
When a firm operates only in the domestic market, both for
procuring inputs as well as selling its output, it needs to deal
only in the domestic currency. As companies try to increase
their international presence, either by undertaking international
trade or by establishing operations in foreign countries, they
start dealing with people and firms in various nations. Since
different countries have different domestic currencies, the
question arises as to which currency should the trade be settled
in. The settlement currency may either be the domestic
currency of one of the parties to the trade, or may be an
internationally accepted currency. This gives rise to the problem
of dealing with a number of currencies. The mechanism by
which the exchange ratebetween these currencies (i.e., the
value of one currency in terms of another) is determined, along
with the level and the variability of the exchange rates can have
a profound effect on the sales, costs and profits of a firm.
Globalization of the financial markets also results in increased
opportunities and risks on account of the possibility of overseas
borrowing and investments by the firm. Again, the exchange
rates have a great impact on the various financial decisions and
their movements can alter the profitability of these decisions.
 
 
In this increasingly globalize scenario, companies need to be
globally competitive in order to survive. Knowledge and
understanding of different countries’ economies and their
markets is a must for establishing oneself as a global player.
Studying international finance helps a finance manager to
understand the complexities of the various economies. It can
help him understand as to how the various events taking place
the world over are going to affect the operations of his firm. It
also helps him to identify and exploit opportunities, while
preventing the harmful effects of international events. A
thorough understanding of international finance will also assist
the finance manager in anticipating international events and
analyzing their possible effects on his firm. He would thus get a
chance to maximize profits from opportunities and minimize
losses from events which are likely to affect his firm’s operations
adversely.
 
 
Companies having international operations are not the only
ones, which need to be aware of the complexities of
international finance. Even companies operating domestically
need to understand the issues involved. Though they may be
operating domestically, some of their inputs (raw materials,
machinery, technological know-how, capital, etc.) may be
imported from other countries, thus exposing them to the risks
involved in dealing with foreign currencies. Even if they do not
source anything from outside their own country, they may have
foreign companies competing with them in the domestic market.
In order to understand their competitors’ strengths and
weaknesses, awareness and understanding of international
events again gains importance.

What about the companies operating only in the domestic

markets, using only domestically available inputs and neither
having, nor expecting to have any foreign competitors in the
foreseeable future? Do they need to understand international
finance? The answer is in the affirmative. Globalization and
deregulation have resulted in the various markets becoming
interlinked. Any event occurring in, say Japan, is likely to affect
not only the Japanese stock markets, but also the stock markets
and money markets the world over. For e.g., the forex and
money markets in India have become totally interlinked now. As
market players try to profit from the arbitrage opportunities
arising in these markets, the events affecting one market also
end up affecting the other market indirectly. Thus, in case of
occurrence of an event which has a direct effect on the forex
markets only, the above mentioned domestic firm would also
feel its indirect effects through the money markets. The same
holds good for international events, thus, the need for studying
international finance.
 
 
Trends in International Trade and Cross Border Financial
Flows
 
Globalization essentially involves the various markets getting
integrated across geographical boundaries. Integration of
financial markets involves the freedom and opportunity to raise
funds from and to invest anywhere in the world, through any
type of instrument. Though the degree of freedom differs from
country to country, the trend is towards having a reducing
control over these markets. As a result of this freedom,
anything affecting the financial markets in one part of the world
automatically and quickly affects the rest of the world also. This
is what we may call the Transmission Effect. Higher the
integration, greater is the transmission effect.
Financial markets were not always as integrated as they are
today. A number of factors are behind this change. The most
important reason is the remarkable development of technology
for transfer of money and information, making the same
possible at an extremely fast speed and at considerably reduced
cost. This has made possible the co-ordination of activities in
various centers, even across national boundaries. Another
significant development was the sudden increase in the inflation
levels of various industrial countries which resulted in the price
of various financial assets changing widely in response to the
changes in the domestic inflation rates and the interest rates in
 different countries. These developments led to some others,
which contributed all the more to the process of globalization.
They are:
 
 
                         The development of new financial instruments:For
example, instruments of the euro-dollar market, interest rate swap,
currency swap, futures contracts, forward contracts, options, etc.

 
         Liberalization of regulations governing the financial
markets:Though the extent and direction of liberalization has
been different in different countries, based on the domestic
compulsions and the local perspective, it has been substantial
enough to make operations in foreign markets a lucrative affair.

 
         Increased cross penetration of foreign ownership:This has
helped in the countries developing an international perspective
while deciding on various factors influencing the process of
globalization.
 
 
The function of the financial system is to efficiently transfer
resources from the surplus units to the deficit units. Greater
integration of the financial markets helps in performing this
function in a better manner. Just like natural resources are
distributed unequally among various countries, some countries
are capital-rich, while others are capital-poor. Capital-rich
countries generally enjoy a lower return on capital than the
capital-poor countries. Let us imagine the scenario where there
is no capital flows between these two sets of countries. In the
absence of adequate capital, the capital-poor countries will have
to either forego or postpone some of the high-yielding
investments. On the other hand, capital-rich countries will be
investing in some of the low-yielding investments due to lack of
better opportunities. When capital flows are allowed to take
place, investors from the capital-rich countries would invest in
the high-yielding projects available in the capital-poor countries.
This would benefit both the countries. The residents of the
capital-rich country will benefit by earning a higher return on
their investments, and the cash-poor country will benefit by
earning profits on the project, which they would otherwise have
had to forego. Integration of financial markets thus results in a
more efficient allocation of capital and a better working financial
system.
 
 
India in the Global Economy
 
 
India is theseventh largest and second most populous country in
the world. A new spirit of economic freedom is now stirring in
the country, bringing sweeping changes in its wake. A series of
ambitious economic reforms aimed at deregulating the country
and stimulating foreign investment has moved India firmly into
the front ranks of the rapidly growing Asia Pacific region and
unleashed the latent strengths of a complex and rapidly
changing nation.
 
 
India's process of economic reform is firmly rooted in a political
consensus that spans her diverse political parties. India's
democracy is a known and stable factor, which has taken deep
roots over nearly half a century. Importantly, India has no
fundamental conflict between its political and economic systems.
Its political institutions have fostered an open society with
strong collective and individual rights and an environment
supportive of free economic enterprise.
 
 
India's time tested institutions offer foreign investors a
transparent environment that guarantees the security of their
long-term investments. These include a free and vibrant press,
a judiciary, which can and does overrule the government, a
sophisticated legal and accounting system and a user-friendly
intellectual infrastructure. India's dynamic and highly
competitive private sector has long been the backbone of its
economic activity. It accounts for over 75% of its Gross
Domestic Product and offers considerable scope for joint
ventures and collaborations.
 
 
Today, India is one of the most exciting emerging markets in
the world. Skilled managerial and technical manpower that
match the best available in the world and a middle class whose
size exceeds the population of the USA or the European Union,
provide India with a distinct cutting edge in global competition.
 
 
According to the report of Goldman Sachs, India would be the
3rd most important economic power in next 50 years
after America and China. Its projection is that GDP of America
would be 45 trillion dollars, China’s 35 trillion dollars and India’s
28 trillion dollars, whereas Japan’s will be about 7 trillion dollars.
It was further estimated that by 2020 the US would be short of
17 million working age people, China 10 million,Japan 9 million,
and Russia 6 million, whereas India will have a surplus of 47
million.
The world is getting closer. Now it is a connected universe.
So India should have a clear vision of its effective participation
in the global economy. It should identify the areas where it can
compete successfully and the areas where it should protect its
industries from global invasion. It should be sensitive towards
continuous changes.
 
India’s ability to benefit from globalization and being a leader in
making things happen in global economy, will make all the
difference whether India become economically developed by
2020 or become a victim of globalization.
 
Recent Developments in Global Financial Markets
 
The foremost among recent changes in world financial markets
has been their accelerating integration and globalisation. This
development, which has been fostered by the liberalisation of
markets, rapid technological progress and major advances in
telecommunications, has created new investment and financing
opportunities for businesses and people around the world. Easier
access to global financial markets for individuals and
corporations will lead to a more efficient allocation of capital,
which, in turn, will promote economic growth and prosperity.
 
Apart from this ongoing integration and globalisation, world
financial markets have also recently experienced increased
securitisation. In part, this development has been spurred by
the surge in mergers and acquisitions and leveraged buy-outs
that has taken place in markets of late, not least in the euro
area. One aspect of this securitisation process has been the
increase in corporate bond issuance, which has also coincided
with a diminishing supply of government bonds in many
countries, particularly in the United States.
 
Other interesting developments in world financial markets
include the continued broadening and expansion of derivatives
markets. The broadening of these markets has largely come
about because rapid advances in technology, financial
engineering, and risk management have helped to enhance both
the supply of and the demand for more complex and
sophisticated derivatives products. The increased use of
derivatives to adjust exposure to risk in financial markets has
also contributed to the rise in the notional amounts of
outstanding derivatives contracts seen in recent years, in
particular in over-the-counter (OTC) derivatives markets with
interest rates and equities as underlying securities. While the
leveraged nature of derivative instruments poses risks to
individual investors. Derivatives also provide scope for a more
efficient allocation of risks in the economy, which is beneficial
for the functioning of financial markets, and hence enhances the
conditions for economic growth.
 
The introduction of the common currency euro has acted as a
catalyst for promoting integration of financial markets in Europe,
and provides an opportunity to create a Europe-wide securities
market. The result will be more efficiently functioning markets
which, in turn, will mean a reduced cost of capital and improved
investment opportunities for businesses and individuals. This
process will also enhance the depth and liquidity of financial
markets, which in turn will promote stability.
  
The European Central Bank contributes to this stability by
pursuing a credible and transparent monetary policy. In fact, a
consistent monetary policy that is committed to price stability is
the best contribution that the ECB can make to the smooth
functioning and integration of European financial markets. Such
a policy will be beneficial, as it will minimise the adverse effects
of inflation and high inflation uncertainty, thereby creating
conditions for steady and sound economic growth in the medium
term. A stability-oriented monetary policy thus contributes to
the smooth functioning of financial markets and to economic
prosperity as a whole.
 
Challenges of International Financial Management
 
Managers of international firms have to understand the
environment in which they function if they are to achieve their
objective in maximizing the value of their firms, or the rate of
return from foreign operations. The environment consists of:
 
         The international financial system, which consists of two
segments: the official part represented by the accepted code of
behavior by governments comprising the international monetary
system, and the private part, which consists of international
banks and other multinational financial institutions that
participate in the international money and capital markets.
 
         The foreign exchange market, which consists of multinational
banks, foreign exchange dealers, and organized exchanges
where currency futures are regularly traded.
         The foreign country's environment, consisting of such aspects
as the political and socioeconomic systems, and people's cultural
values and aspirations. Understanding of the host country's
environment is crucial for successful operation and essential for
the assessment of the political risk.
 
The multinational financial manager has to realize that the
presence of his firm in a number of countries and the diversity
of its operations present challenges as well as opportunities. The
challenges are the unique risks and variables the manager has
to contend with which his or her domestic counterpart does not
have to worry about. One of these challenges, for example, is
the multiplicity and complexity of the taxation systems, which
impact the MNC's operations and profitability. But this same
challenge presents the manager with opportunities to reduce the
firm's overall tax burden, through transfer of funds from high-
to low-tax affiliates and by using tax havens.
 
The financing function is another such challenge, due to the
multiplicity of sources of funds or avenues of investment
available to the financial manager. The manager has to worry
about the foreign exchange and political risks in positioning
funds and in mobilizing cash resources. This diversity of financial
sources enables the MNC at the same time to reduce its cost of
capital and maximize the return on its excess cash resources,
compared to firms that raise and invest funds in one capital
market.
 
In a real sense MNCs are particularly situated to make the
geographic, currency, and institutional diversity work for them.
This diversity, if properly managed, helps to reduce fluctuations
in their earnings and cash flows, which would translate into
higher stock market values for their shares. This observation is
especially valid for the well-diversified MNCs.
 
This is not to suggest that the job of the manager of an MNC is
easier, or less demanding, than if he or she were to operate
within the confines of one country. The challenges and the risks
are greater, but so are the rewards accruing to intelligent,
flexible, and forward-looking management. The key to such a
management is to make the diversity and complexity of the
environment work for the benefit of the firm and to lessen the
adverse impact of conflicts on its progress.
 
Gains from International Trade and Investment
 
The major gain of international trade is that it has brought
about increased prosperity by allowing nations to specialize in
producing those goods and services at which they are relatively
efficient. The relative efficiency of a country in producing a
particular product can be described in terms of the amounts of
other, alternative products that could be produced by the same
inputs. When considered this way, relative efficiencies are
described as the comparative advantages. All nations can do
simultaneously gain from exploiting their comparative
advantages, as well as from the large-scale production and
broader choice of products that are made possible by the
international trade.
 
Suppose that Japan is relatively more efficient in producing steel
than food and theUnited States is relatively more efficient in
producing food than steel. So we can expect food to be cheap
relative to steel in United States, and steel to be cheap relative
to food in Japan. This suggests that by exporting foods to Japan,
the United States can receive a relatively large amount of steel
in return. Similarly, by exporting steel to United
States, Japan can receive a relatively large amount of food.
Therefore, via exchange of products through trade, both
countries can be better off. This gain is pure exchange gain and
would be enjoyed even without specialization of production.
Here we implicitly assumed constant returns to scale, that is,
the number of people required to produce the food and steel are
same. However, if there is increasing returns to scale, it will
take fewer people to produce a given quantity of output for
which the country has a comparative advantage. In this case
economies of scale is the further gain from international trade.
Another gain from trade comes in the form of an increased
product variety. In addition, international trade can make a
brooder range of inputs and technology available and thereby
increase economic growth.
 
Among the gains of international investment has been
improvement in the global allocation of capital and an enhanced
ability to diversify investment portfolios. The gain from the
better allocation of capital arises from the fact that international
investment reduces the extent to which investment
opportunities with high returns in some countries are forgone for
want of available capital, while low-return investment
opportunities in other countries with abundant capital receive
funding. The flow of capital between countries moves rates of
return in different locations closer together, thereby offering
investors overall better returns. There is an additional gain from
increased international capital flows enjoyed via an enhanced
ability to smooth consumption over time by lending and
borrowing.
TRADING BLOCKS
 
The post-second World War period has seen a growing interest
in integrating national economies at regional levels. The efforts
to form regional groupings, trade blocks and treaties have often
floundered due to political differences and unforeseen economic
hurdles. The motivation arises out of the realization of the
limitations imposed by national frontiers and the expected
benefits of a wider market, consisting of several national
economies. 
 
Regional trade agreements represent an attempt by a group of
countries to increase the flow of trade and investment by
reducing direct and indirect trade barriers between them, as
well as implement similar trade policies vis-à-vis outsiders.
Multinational trade blocks are a major global trend. Most of
these blocks are formed by geographically close countries, and
revolve around a small group of larger economies. This is
further testament to the importance of closeness and proximity
in establishing network structures. Proximity in this case refers
to both geographic as well as economic and social similarities
among countries. Such trade and economic conglomerations
give the group a bigger role in the world economy, and insures
that smaller member countries are not marginalized. In a recent
study of future high growth areas, it was shown that world trade
and regional trade conglomerations such as NAFTA, ASIAN, and
the EU will fuel economic growth.
 
The common trading policies and preferential treatment for
member countries created by a trade agreement have the
double effect of promoting intra regional trade, while, at the
same time, putting outsiders at a disadvantage. This has two
major implications for investors. First, due to the liability of
being an outsider, many companies decide to set up shop inside
a trade area in order to benefit from the intra regional
preferential arrangements. Second, in most cases, countries do
not stop at homogenizing their trade policies, but rather move
towards greater trade and economic integration. This is further
evident in the continuously increasing degree of integration
between the economies of Western Europe. Such trends create
greater market similarities as laws and business practices are
standardized within the region. Market similarities have been
identified in the literature as an important determinant in
foreign market selection decisions. In addition, costs associated
with international commerce can be reduced when doing
business in similar markets as harmonization of trade practices
reduces the need for adopting different trade approaches for
different markets.
 
The rapid growth of regional trading relationships
in Europe, Asia, and Latin Americahas raised policy concerns
about their impact on excluded countries and on the global
trading system. Some observers worry that the multilateral
system may be fracturing into discriminatory regional blocs.
Others are hopeful that regional agreements will go beyond
what was achieved in the Uruguay Round and instead become
building blocks for further global liberalization and WTO rules in
new areas. Jeffrey Frankel shows through extensive empirical
analysis that the new breed of preferential trade arrangements
is indeed concentrating trade regionally. He then assesses
whether regional blocs are "natural" or "supernatural"—that is,
whether they enhance or reduce global welfare. He concludes
that a move to complete liberalization within blocs, with no
reduction in barriers between blocs, would push the trading
system into the super natural zone of an excessive degree of
regionalization. More balanced patterns of liberalization,
however, give favorable outcomes. He considers regionalism at
two levels: both the formal trading arrangements that are
already in effect, and the broader continent-sized groupings that
are under discussion (the Americas, Europe, and the Asia
Pacific). Frankel's study also assesses the political and economic
dimensions of regionalization and its implications for world
economic prospects and public policy. In conclusion, Frankel
proposes several policy prescripttions for pursuing partial
regional liberalization among blocs as a stepping-stone toward
global free trade.
 
Conditions for Success of Trading Blocks
 
One of the questions that are raised these days is whether the
World Trade Organization, the European-Mediterranean
agreements, and the Arab common markets are complementary
or substitute arrangements. This question is not only
interesting, but also relevant and provocative: It is interesting
because the answer is not obvious. For instance, many hold the
view that countries may lock themselves into regional trade
agreements and might not necessarily feel the pressure to open
up their markets beyond those agreements. It is relevant — and
not merely academic — as all countries in the Middle East and
North Africa region are dealing with it or will have to deal with it
in the immediate future. In fact, these countries have been
liberalizing their trade regimes, simultaneously negotiating with
the EU and, for some time, trying to integrate into an Arab
common market. And it is provocative because, in trying to
answer it, many people might end up supporting the Euro-Med
agreements rather than an Arab common market, which would
make others unhappy.
 
The question of whether trade agreements are compliments or
substitutes to the WTO depends in part on whether they are
building or stumbling blocks toward full liberalization. It also
depends on whether these agreements are favorable to
countries’ development. In this connection, three conditions
seem to make these agreements beneficial.
 
external tariff. A full customs union would also harmonize
quantitative restrictions, export subsidies, and other trade
distortions. Indeed, it would set all trade policy for its members
as a unified whole. It would, for example, engage in any future
trade negotiations with other countries with a single voice.
 
Common Market
 
Beyond the free exchange of goods and services among
members, a common market entails the free movement of
factors of production: labor and capital. The dividing line is
admittedly sometimes blurred between the free exchange of
services and the free movement of factors: labor includes
services such as construction or consulting, and capital includes
banking and other financial services. The free movement of
capital applies to portfolio capital as well as to foreign direct
investment (FDI), which is the purchase and sale across national
boundaries of real estate, plant, and equipment. This is deep
integration in that it impacts some laws and institutions that
could have been preserved as domestic prerogatives even with a
high level of trade integration.
 
Economic Union
 
Going beyond the free movement of goods, services, and
factors, economic union involves harmonizing national economic
policies, including typically taxes and a common currency. There
is a unified central bank and a common currency. The fiscal as
well as monetary policies are well co-coordinated, some of them
being decided by the central bank. The decision of the European
Community to change its name to the European Union in 1994
represented a determination to proceed to this higher stage of
integration. The countries forming an economic union have to
give up a lot of economic and social freedom in favor of the
central decision-making authority.
The Scope of International Finance