Relevance

Over the past decades, national economies have become more integrated through ever-intensifying foreign trade relations and international financial relations (Figure 6.1). For example, cross-border holdings of stocks and bonds have grown spectacularly in the past twenty years due to sharply-lower transaction costs and the worldwide trend towards capital account liberalisation and financial sector deregulation. An important aspect of international economic integration is the larger role of foreign direct investment (FDI) in the economy. FDI has grown at rates far greater than those of international trade or output since the late 1980s, especially among the industrialised countries. Estimates by UNCTAD (2002) put the total stock of FDI capital at 17.5 per cent of global GDP in 2000, more than double the size in 1990 (8.3%). A direct consequence of the greater presence of foreign-owned firms is the internationalisation of production. Currently, about 11 per cent of global production is accounted for by companies that are under control of foreign investors.

The rise in international economic interdependence means that economic conditions in one country have become increasingly sensitive to disturbances occurring in others. The ‘traditional’ channel through which economies may affect each other is formed by international trade flows.

Furthermore, it is widely recognised that the increase in international capital mobility has boosted the importance of financial markets as a conduit for the cross-border transmission of disturbances. Correlations among the major stock markets have greatly increased in the past twenty years (Berben and Jansen 2005).