Friday, May 29, 2015

The Role Of The US In A Globalized Financial System

This IMF report on the global financial system suggests that the US plays the role of a venture capitalist, and also as an insurer in the global system.  In normal times the US has run trade deficits which is financed with short term dollar denominated debt at low interest rates.   It then takes a long position by investing in foreign fixed assets and equities that are primarily denominated in foreign currencies.  The value of the dollar falls in relation to its trade deficit, but the value of its foreign assets rise through capital gains, and with the rise in the value of the foreign currency denominated assets.  In this sense the US functions like a bank or a venture capital firm by borrowing short term at low interest rates and by making leveraged investments in foreign assets. 

During the financial crisis the US operated like an insurer.  It used its fixed investment positions in foreign nations to reverse the flow of funds to assist nations that were harmed by the problems in the financial system.  The US collects premiums from the rest of the world in good times and uses those premiums to pay claims in bad times.

The IMF report also suggests that the international financial system is inherently risky.   Moreover, it is hard to measure the benefits from the system.  It favors the use of macroprudential policies which can reduce the risks that are inherent in a highly leveraged system.

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