The case for prudent financial liberalisation and its policy implications
It is interesting that there is a recent econometric literature showing that financial crises are often preceded by booms of capital flows (for example Agosin and Huaita, 2012 and Borio, 2012). In the case of Latin America, net capital flows during the pre- 1980’s debt crisis years (1977-1981) reached 4.5% of GDP annually (Ffrench-Davis and Griffith-Jones, op cit.). It is important to stress a somewhat neglected fact that capital flows (in this case mainly intra-European ones) have played a major role in the origins of the recent European sovereign debt crisis. Indeed, it is not often emphasized that in Europe capital flows were numerically larger than in Latin America. Thus, in Greece, the cumulated capital flows grew from around 30% of GDP in early 2002 to around 80% of GDP in early 2008 (almost 10% of capital flows as proportion of GDP annually). In Spain this stock grew from just over 20% of GDP in early 2002 to 60% mid 2008, around 7% of capital flows as proportion of GDP annually, with similar increases reported for Portugal (Pisani-Ferry and Merler, 2012, based on Eurostat data).
From this comparison, it can be seen that capital flows were on average higher to the periphery European countries during the 2002-2008 years then they were to Latin America in the 1977-1981 pre-debt crises years. These massive capital flows were accompanied in Europe, as they had been previously in Latin America, by very low spreads as lenders and investors massively under-estimated risk. As crises started in both cases, spreads either shot up, often to unsustainable levels, or credit rationing occurred so that countries became unable to raise new funds or loans.
About the Author
Financial Markets Program Director
Initiative for Policy Dialogue (IPD)
Stephany Griffith-Jones is an economist specialising in international finance and development, with emphasis on reform of the international and national financial system, especially in relation to financial regulation and global governance. She is Financial Markets Director at the Initiative for Policy Dialogue, Columbia University. Previously she was Professorial Fellow at the Institute of Development Studies at Sussex University. She was Director of International Finance at the Commonwealth Secretariat and worked at UN DESA and ECLAC. She was senior consultant to governments in Eastern Europe, Latin America and Africa and many international agencies, including the World Bank, the IADB, the European Commission, UNDP and UNCTAD. She was a member of the Warwick Commission on financial regulation. She currently is theme leader on finance in the ESRC /DFID growth programme for LICs, especially African ones. She has published over 20 books and many scholarly and journalistic articles. Her books include Time for the Visible Hand, Lessons from the 2008 crisis, edited jointly with José Antonio Ocampo and Joseph Stiglitz.