Proceedings of the IFC Satellite meeting organised in cooperation with the Central Bank of Brazil and the Center for Latin American Monetary Studies (CEMLA) in Rio de Janeiro on 24 July 2015.
The Great Financial Crisis (GFC) of 2007–09 and its aftermath have underlined the important role played by international capital flows from a financial stability perspective. They can exacerbate two main features of the financial system, namely the importance of system-wide linkages and the procyclicality of systemic risk (Crockett (2000)). The development of international finance has indeed multiplied channels allowing for contagion effects of a systemic nature. In addition, external sources of credit expansion, especially in foreign currency, appear to be playing a key role in the build-up of financial fragilities over time, as they often provide the marginal source of funding feeding episodes of financial booms. One view is thus that the development of financial liberalisation and globalisation undertaken since the 1970s has been instrumental in generating a so-called “excess financial elasticity” in the global system (BIS (2015a)).
Several factors have been at play. First, there has been a growing insertion of domestic economies in a world characterised by freely mobile capital flows across currencies and borders (Heath (2015)). Second, financial systems worldwide have changed markedly and have become extremely diversified in terms of actors and products, allowing for greater interaction with the “real economy”. Third, the globalisation of the financial system has heightened the likelihood that financial imbalances occur simultaneously across countries due to the common influence of global factors. This highlights the powerful role played by “global liquidity“, a concept that encompasses the degree of ease in financial conditions (Caruana (2012)) – a key element being the role played by international funding currencies (McCauley et al (2015)).