Fall in cross border capital flows raises worries about strength of economic recovery- report

By Nicel Jane Avellana

Jan 06, 2014 08:21 PM EST

An analysis done by the McKinsey Global Institute for the Financial Times revealed that cross border capital flows is still the same as a decade ago, fueling fresh concerns about the strength of economic recovery six years after the economic crisis, the Financial Times reported. A dramatic fall in the flow of money in the global financial system underscores how the subprime mortgage crisis in the US and the debt crisis in the Eurozone reversed the globalization of finance. It also raises questions on the ability of the flows to return to their pre-crisis highs, the report said.

Aside from possibly fueling concerns about the rate of economic recovery in the advanced world, the contraction also masks a move in the world economic order away from European lenders and towards emerging market economies, the report said.

The figures revealed that in the middle of 2007, the cross border capital inflows into the G20 group of economies were equal to nearly 18% of the economic output of those countries. In the middle of last year, it was only equal to 4.3%. The report said that in dollar terms, this would mean that G20 capital cross border inflows have dropped 67.5% since the middle of 2007.

Susan Lund, a partner at McKinsey, told FT, "You would have expected them [capital flows] to have fallen compared with the bubble years. What is surprising is the magnitude of the fall. Rather than seeing a rebound, we are seeing stagnation." She said that the real economy would feel the consequences and that there was a possibility that financial globalization as the world knows it could never recover.

In addition to declining, capital flows have also changed their composition significantly. Since 2007, a majority of the contraction in flows is due to weakened banks, primarily in Europe, that have reduced loan books and retreated behind their borders. Consequently, bank lending comprises a much smaller proportion of total global capital flows compared to 2007.

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