Obstfeld and Taylor: Globalization and Capital Markets

Obstfeld, M, and AM Taylor. 2003. Globalization and capital markets. Globalization in historical perspective: 121-187.

Over the past 50 odd years, the rise of capital markets represent a fundamental shift in the way that global economic events impact the rest of the world. This piece wonders what relationship this increasing preeminence of global financial capital has on state autonomy.

There is clear benefit from increased capital flows from the perspective of economic theory. If, however, there is clear benefit for increased capital flows, why were they not imposed after WWII? "What explains the long stretch of high capital mobility that prevailed before 18914, the subsequent breakdown in the interwar period, and the very slow postwar reconstruction of the world financial system? The answer is tied up with one of the central and visible areas in which openness to the world capital market constrains government power: the choice of an exchange rate regime" (13).

"In most of the world's economies, the exchange rate is a key instrument, target, or indicator for monetary policy. An open capital market, however, deprives a country's government of the ability simultaneously to target its exchange rate and to use monetary policy in pursuit of other economic objectives" (14). Excellent overview of the unholy trinity on 14.

"Eventually, the very success of the Bretton Woods system in spurring international trade and the related capital movements brought about its own collapse by resurrecting the 'inconsistent trinity.' For the United States, maintaining fixed exchange rates seemed to require high interest rates and slower growth; for Germany, fixed exchange rates seemed to require giving up domestic control over inflation. Even the relatively limited capital mobility that existed by the early 1970s allowed furious speculative attacks on the major currencies. After vain attempts to restore fixed dollar exchange rates, the industrial countries moved to floating rates early in 1973" (17).

There is a discussion as to the implications of capital mobility on tax structures as well as income distribution.