Objectives
The
main objective of this £5 million programme is to promote
and support world-class theoretical, empirical and policy-oriented
research focusing on the interrelationship between finance and
the world economy under the following two related areas:
1.
To advance our understanding of ways financial markets and
financial policies influence major global issues, such as
poverty, development, growth and transition. Questions to
be addressed, or topics to be examined under this area, include
the following:
The
relationship between finance and growth, through time and
at different stages of development and the relative importance
of different types of finance (e.g. banks, stock markets).
The role of institutions in promoting financial development,
investment (private and public), human capital, R&D,
export performance and growth; political economy aspects
of this relationship at different stages of development.
Capital
mobility and its relationship to institutional and economic
development. Ways of increasing the level and stability
of capital flows to developing countries and the role of
different types of flows. For example, is Foreign Direct
Investment (FDI) the only viable modality or can equity
flows reach significant levels without exposing the recipient
countries to high levels of risk?
The
political economy aspects of cross-country variation in
institutional quality, such as governance, regulation and
supervision of financial institutions and legal systems;
How are market rules and regulations set within and across
countries? What is the impact of foreign institutions on
local corporate governance? What is the role of cultural
factors in explaining the workings of political institutions?
Microlevel
(informational) aspects of finance and implications for
policies. What are the determinants of the cost of capital
in developing countries, and to what extent does it reflect
increased risk taking due to asymmetric information? What
is the role of credit and financial intermediaries in this
context? What is the role of social structures, culture
and behaviour in the decision making process? How and why
do these vary around the world?
The
design of financial instruments, such as risk mitigation
tools, specifically aimed at alleviating poverty. The socio-economic,
cultural and political obstacles to accessing financial
services, including credit and insurance, by the poor.
The
role of decision making in international institutions and
their elationship to domestic politics and the (re-)design
of an appropriate international financial architecture to
deliver global financial stability and growth. Is the current
structure appropriate when it was set up for a different
purpose? Are there appropriate controls? More specifically,
what kinds of reform are required to improve the governance
and policies of the Bretton
Wood Institutions to ensure global financial stability
without adverse effects on world poverty and political stability?
What are the disruptive consequences of IMF
and World Bank policies?
Alternative
e.g. psychological and behavioural approaches to finance
and their implications for financial markets and the world
economy. What are the current psychological developments
in the area of risk in decision making and the role played
by psychological biases, heuristics and computational mechanisms
that support reasoning and the decision making process?
What policy implications emerge from this type of approach?
Security
issues and their linkages to finance and the world economy,
e.g. financial crime and its links to terrorism or the relationship
between financial crises and poverty and the extent to which
it breeds terrorism or political instability, in a global
context.
Spatial
aspects of economic relationships and their implications
for economic growth around the world. Where will different
economic activities take place in the 21st century? To what
extent will IT enable activities to relocate, and will it
undermine the future development of cities? How will improvements
in logistics reshape world economic geography? Will East
and South Asia continue to supply an ever-increasing share
of world manufacturing? Will Africa continue to be marginalised?
2.
To analyse policy issues in a variety of institutional and
cultural settings in an era of low inflation, increasingly
integrated financial markets, changing demographics and trade
patterns. Questions to be addressed, or topics to be examined
under this area, include the following:
The
interaction between policy and financial stability, in both
developed and developing economies, including the appropriate
response by government, businesses and individual to volatility
in asset prices such as tocks, shares and house prices.
The
political economy aspects of public debt in the Euro-zone
and Japanese-style persistent depression, following falls
in asset values and appropriate policy responses, and the
role of the political process, interest groups and cultural
factors.
The
degree of wage and price rigidity at low inflation and its
implications for inflation and unemployment; the prospects
of reinstating fiscal policy for stabalisation purposes;
the benefits and costs of 'de-politicising' fiscal policy.
What
are the most feasible exchange rate regimes for for emerging
countries, following difficulties with currency boards and
pegged exchange rates, in the presence of thin financial
markets and inadequately developed institutions; Are there
any historical lessons to be learned, for example from the
Gold Standard period?
What
are the implications of changing demographics such as ageing
populations in rich countries and Aids in Africa for government
policies? What are the implications of changing trade patterns
for rich and poor countries?
The
suitability of inflation targeting for developing and transition
economies under financial fragility, underdeveloped financial
markets and weak institutions; the benefits and costs of
price level targeting vis-a-vis inflation targeting.
Rationale/Profile
for the Programme
Given
the recent world events, the subject matter provides an opportune
moment for a broadly based yet focused programme of research
on Finance and World Economy, to address a number of key issues
faced by academics, policy makers and practioners.
The
questions or topics, set out above, have been formulated following
an extensive consultation exercise with senior academics and
policy makers both in the UK and overseas. They should, therefore,
provide a very useful framework for researchers, and help them
to propose projects based on ideas that are likely to be 'winners'
in terms of high quality academic research and policy relevance.
Scientific,
Practical and Policy Context:
The
context in which the research will be carried out is one in
which the transition economies and developing countries are
challenged both by their own needs for appropriate policy and
the knock-on implications of the policies adopted in the developed
world. Many of these countries are additionally handicapped
by an inadequately developed institutional infrastructure that
prevents them from benefiting fully from increased integration
of financial markets. For example, inadequate enforcement of
contracts, protection of (physical and intellectual) property
rights, and corruption are widely recognised as substantial
obstacles to investments, FDI, trade, financial developements
in political economy, which highlight the influence of interest
groups.
Financial
instability has had enormous consequences on the world economy,
affecting even relatively successful economies, and a major
adjunct of attacking world poverty under the UN vision for 2015
has to be achieving a more stable financial environment. Financial
crises in East Asia, Russia and more recently Argentina, have
rekindled the debate on the choice of an exchange rate regime
and the desirability of free capital flows. They have also raised
important questions concerning the policies of the IMF in resolving
financial crises, and, more broadly its governance and accountability.
There are also related questions regarding the transmission
mechanisms of financial instability across borders and the influence
of psychological factors. Episodes of financial instability
have also served to highlight the link between poverty and poorly
designed policies, as well as the political economy aspects
of financial crises. Demographic developments, such as the rise
of Aids in Africa are likely to become increasingly important
in the design of appropriate policies, providing additional
challenges for policy makers. Some of the epidemiological projections
regarding Aids, for example, are quite worrying. Yet, there
is very little, if any analysis, of these new challenges and
their implications for policies.
In
contrast, the developed world is characterised by downward spiralling
financial markets, widespread low inflation, with monetary policy
based on inflation targeting and floating exchange rates. There
are also concerns about private savings in these countries (too
little in some countries, too much in others) as well as over
investment and public debt.
The
dominant framework for monetary policy in the developed world,
and increasingly also in emerging countries, is one in which
independent commitees of experts or independent central banks
set interest rates. It seems for the moment that the question
of how to conduct monetary policy has been 'solved'. But how
long will this regime last? On past experience, one would not
expect any monetary policy regime - however seemingly stable
- to last long. In theoretical terms the current (Kydland-Prescott-Lucas)
paradigm, on which this policy framework is based, does not
recognise financial market imperfections or incompleteness,
and ignores the importance of stock market volatility and the
existence of distortionary fiscal policy. Thus, many of the
theoretical solutions break down under plausible scenarios,
for example when there are asset price bubbles, multiple equilibria
or bounded rationality. In practical terms, one danger associated
with low inflation is Japanese-style persistent depression following
over investment and deflation of asset values. An interesting
feature of Japan and other countries is the prolonged failure
of policymakers to tackle these problems effectively, which
may indicate the relevance of political economy considerations,
such as active interest groups and political pressures to maintain
the status quo.
A
further feature of low inflation is the question of whether
it is associated with more wage and price rigidity, which may
indicate the existence of a long-run inflation/employment trade-off.
A related development concerns public debt and its interation
with changing demographics - ageing populations and changing
patterns of work and leisure - and their wider socio-economic
effects.
The
appropriate (re-)design of the international financial architecture,
together with appropriate ,echanisms for crisis avoidance and
resolution remains a high priority for policy makers. Progress
has been quite slow in this area and there still remain many
issues to be worked through before such a mechanism is likely
to come into being.
Last
but by no means least, the broader context in which the research
will be carried out is one in which global security issues are
of paramount importance, following on from the events of 9/11
in the U.S. and subsequent developments in Asia and the Middle
East. These vents have exposed a new and so far little understood
source of vulnerability for the world economy, which a programme
of research on 'finance and world economy' cannot ignore. The
social and political aspects of these events, as well as their
causes and effects together with the role played by finance,
need to be better understood by researchers and policy makers
alike. This undoubtedly dictates innovative inter-disciplinary
approaches and international perspectives.
Research
needs / implications (data, methods etc):
In
the absence of a suitable established model of financial markets
and their interrelationship with the world economy, research
methods will include developing theoretical approaches as well
as empirical testing of data, new models and ideas. Empirical
methods to address the research questions and topics will include
time series studies using long-run historical data, mostly available
for developed economies, and cross section or, perhaps more
profitably panel data, which exploit both cross-country and
time-series variation using state of the art computational,
econometric and statistical techniques.
There
is also scope for greater diversity in the data and models that
can be used to examine institutional, political economy, and
psychological or geographical factors. Scope for new theoretical
and analytical interdisciplinary work also provides ample opportunities
for methodological advances across the different social science
disciplines and to provide a greater evidence base for policy
making. Besides the empirical testing of theories, some research
questions would also lend themselves to financial and economic
experiments, across countries and cultures, thereby moving the
field of experimental economics more into the grounds of finance
and psychology and thus widening the scopes for comparison.
For example, it would be worthwhile using experiments to test
whether rational choice and efficient markets receive more support
in experiments conducted in Anglo-Saxon countries, than in transition
economies, with their post-communist legacy, or in Muslim countries.
Similarly, the Programme would bring anthropological insights
into advancing our understanding of apparently intractable economic
problems such as the failure of repeated fiscal and monetary
interventions in Japan.
Data
resources to support the programme are also available through
the Economic and Social Data Service (ESDS) International
via the following web link: http://www.esds.ac.uk/international
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