International Financial Relations PDF

11~15 International Financial Relations ● ● ● ● International finance, cross-border investments, multinational corporations Why invest and borrow abroad? ○ Interests and interactions (possibility of cooperation) Creditor-borrower interaction The role of the IMF Financial Crises ● There is demand f...

11~15 International Financial Relations ● ● ● ● International finance, cross-border investments, multinational corporations Why invest and borrow abroad? ○ Interests and interactions (possibility of cooperation) Creditor-borrower interaction The role of the IMF Financial Crises ● There is demand for foreign money and a supply for it, with investors willing to lend money ● In the 1960s, Latin American governments began pursuing foreign loans ○ They were active in pursuing industrialization ● From 1974 to 1982, the region’s total dept grew from $40 billion to $330 billion ○ International investment going into Latin America ○ There were high expectations of high productivity ○ However the expectations were not met ● In 2014, total investments were about $140 trillion ○ While international finance has advantages, it is also extremely controversial ○ There was a debt crisis ○ Asian financial criris in 1997 ○ The 2008 financial crisis ○ These crises have far reaching effects into society International financial flows ● Two broad categories pf (private) foreign investment: ○ Portfolio investments ○ Foreign direct investment (FDI) ● In comparison, foreign aid (official development assistance) ○ Bilateral, multilateral (IBRD, IDA, Regional DBs) ○ Nonconcessional vs concessional ■ Concessional: No obligation to payback grant(?) ● Interest-only loans or other loan facilities offered at reduced interest rates to promote economic growth ● A lot cheaper than non-concessional ■ Non-Concessional: ● Loans granted at market interest rates ■ Difference between the two are the level of interest charged. As a result, businesses tend to prefer concessional loans over non-concessional loans ● Portfolio investment: the investor has no role in management ○ Bonds ■ Net value is specified at time of sale ■ Issued by governments or firms ○ Loans ■ ■ ○ ○ ● Stocks ■ Value and dividend vary without guarantee ■ Firms sell shares to individuals and institutional investors Sovereign lending: loans from private financial institutions to sovereign governments ■ Substantial portion of portfolio investment that goes to developing countries ■ Politically contentious: debt crisis pititing governments and private bankers FDI ○ ● Terms (for example, interest rate), but not value, set at the time of sale Issued to and from individuals, firms, banks, governments or international organizations such as the World Bank Foreign Direct Investment (FDI): Investment in a foreign country via the acquisition of a local facility of the establishment of a new facility. The investor maintains controls of facilities ○ Direct investment: investors maintains control of facilities and rick thereof ■ Multinational corportations engage in foreign direct investment (FDI) ■ Conflicts between firms and host country can rise over distribution of profits and control over resources ○ Direct investors have full authority to run their investments, but they also take most of the associated risks ■ Risks of nationalization (eg. starbucks in 인사동) MNCs and FDI ○ FDI is an important form of international capital movement ■ Carried out by corporations that maintain control over the facilities they establish overseas ○ These corporations are known as MNCs ■ Multinational Corporations ○ Corporations go multinational to gain access: ■ To local resources (esp. labor) ■ To the local market (since transnational costs are costly) ○ Some fault MNCs for: ■ Not investing at home ■ “Outsourcing” jobs to countries with lower wages ■ Looking for pollution-friendly regimes ■ Seeking ethically relaxed governments ○ Some host countries complain about: ■ MNCs that pay too little in taxes ■ Insenstivitiy to social, cultural, and political norms ■ MNC dominance of domestic markets Figure 8.1 ● Money (FDI, Bonds and loans, equity) going into foreign markets have steadily increased from the 1970s to 2019s Who borrows money? Who lends? ● About 90% of international investments flows to wealthy countries because the risks are lower ○ Industrialized countries are more economically and politically stable ○ There is always a risk that poor countries may undertake policies that devalue an investment ■ Eg. devaluing currencies, which would descrease the value of your assest Developing countries ● Short on domestic capital, can realize economic growth by borrowing foreign finance ● Benefits from investing outside one’s country ○ Primarily to realize a higher rate of return: countries lacking in capital will pay a higher price (interest rate), or price, for an investment, allowing greater profit for investors ■ Even government bonds, they need to promise higher returns in order to borrow money ○ Ability to invest in natural resources not found in home country ○ Differences in business environmet: legal, taxation, and political representation ● Costs od investin abraod ○ Soverign risk: may be more difficult to enforce a debt in a foreign jurisdiction ■ To minimize this, countries make bilateral investment treaties / free trade agreements, forming an institutional safeguard (abritration courts for investment disputes) which allows lenders to be able to get their returns back ○ Foreign investors may not enjoy the same rights as national borrowers ■ Restrictions on foreign ownership → discrimination ○ Host country macroeconomic trends may be differ from those of the home country ○ Higher costs of information and transactions ● Both investors and the countries they invest in have in interest in cooperating ○ It makes sense for a country to borrow if the borrowed funds are used productively ○ Cooperating → lending and borrowing ● Potential for virtuous cycle ○ The loans should boost the country’s economy by more than the amount of the debt ○ As national economy grows, tax revenue increases, making it easier to pay off debts ● What if the investment does not lead to economic growth? ● Distributional conflict ○ Between lenders and borrowers ○ Among citizens of the borrowing countries (eg. taxing citizens) ● ● ● Within a borrowing country, making debt payments can require: ○ Raising taxes. Reducing government services, importing less, restraining consumption and wages, etc ○ Governments often impose unpopular measures in an attempt to pay off loans: austerity measures The benefits and costs of foreign investment do not equally affect every citizen ○ The tax payers bears the costs A financial crisis abroad may have negative effects domestically and vice versa Debtor-creditor interactions ● Sovereign lendings involves a commitment problem () ○ Not lending is giving up the potential opportunity for ther virtuous cycle (similiar to protectionism in free trade) due to the inability of punishments when not paid back ○ So it’s a loss for you and a loss for them ○ Tue possibility of default is problem for the brorower who must reassure the creditor that it will honor its commitment ○ If a debt is defaulted, creditors can (only limitedly) punish ■ Cut off future lending ■ Free the debtor nation’s assets ■ Lobby to cut off aid ■ Debt disputes gave caused military conflicts ● Debtor-creditor interactions are also characterized by incomplete information: ○ The debtor may claim that it cannot make its payments - but is it true? ○ The creditor may threaten to retaliate - but will the threat be carried out? International Financial Institutions ● The Bank for International Settlements (BIS) was established in 1930 ● Today, the International Monetary Fund (IMF “lender of last resort”) oversees many aspects of international financial affairs ○ However there are conditions IMF ● The IMF was established at Bretton Woods to manage the international monetary and financial system ● The IMF provides technical assistance and monitoring of economic policies ● A country facing debt difficulties can turn to the IMF to negotiate a program of economic policies ○ The IMF can also “certify” a debtor country as being in compliance with IMF policies ○ The IMF negotiates agreements directly with individual country’s government ● However, critics of the IMF believe it is a tool of international financiers, doing little to assist poor nations in achieving economic growth and development Borrowing from the IMF ● ● ● In the wake of the 2007, financial crisis, Ireland, Greece, and Portugal all have needed to borrow from the IMF Benefits: ○ The IMF provides information ○ By setting financial standards and providing information, the IMF facilitates relations between borrowers and lenders, to the benefit of both ○ The IMF can produce agreements where conflict between debtors and creditors owuld otherwise exit Criticism: ○ Financial standards and information that the IMF provides seem to have a limited impact in preventing crises ○ If the IMF does its job well - there should not be any financial crises ○ Negotiations are nondemocratic ○ IMF forces noneconomic policy concessions World Bank ● IMF is tradtionally only used when there is a crisis - a program based to make economic adjustments ● World Bank - development bank that funds infrastructure projects ● Augmenting private capital flow ○ Infrastructure projects are not attractive for private investor, does not yield immediate returns ● Multilateral Development Agencies ○ World Bank (mostly used for middle income developing countries) ■ IBRD and IDA ● IBRD has a very good credit rate which allows them to borrow money at a cheaper rate and lends it to developing countries with low interest rates ● The IBRD channels the money they earn to IDA for concessional lending or grants to the poorest countries in the world ● ● ● There are many advantages to having access to international capital ○ However, foreign loans, and investment may become a burden, imose constraints, and create conflicting interests While many people benefit from international finance, it can also negatively impact the lives of billions. International financial institutions try to facilitate better cooperation between creditors and debtor countries.