The Global Financial Crisis is the widespread economic emergency which started in the year 2007 with the Crash of the Financial System of the US and quickly spread to the whole world as a result of modern global trading systems arising from interconnected markets. The effects of the global financial crisis began to widely take effect towards the end of 2007 when fuel and food prices tremendously shot up. Given the fact that the United States of America plays a great role in the global financial industries and stock trading, the collapse of its financial system had devastating impacts to almost all nations across the world. It is therefore agreed the world over that the epicenter of the global financial crisis is the United States of America. The United States Financial Crisis is attributed to five factors namely: the sub-prime lending and the housing boom, the excessive risk taking by financial institutions among them banks, hubris and easy money that affected people in the financial sector, grade inflation and rating agencies and lastly opaque and complex securitization (Arieff, 2010, p. 20).
An emerging market, on the other side, is an economy that is in the early steps of development and which whose markets have sufficient liquidity and size that are receptive to external investments. Emerging markets can also refer to countries with business or social activities which are in the process of rapid industrialization and growth. Markets that were less developed were in the 1970's also referred to as LEDCs (Less Economically Developed Countries). In most instances, emerging markets have a small market marked with a very short history of operation e.g. of developing countries like Kenya, China, India e.t.c. As of the year 2010, there existed more than 40 emerging markets in the whole world though India's and China's economies have been considered the largest. Emerging markets have been the most affected by the global financial crisis (Boyes, 2009, p. 150).
How the global financial crisis spread to the emerging markets
One of the most serious impacts of the global financial crisis is that from the year 2007 when the crisis began, the forecasted growth rates in 2008 and beyond that have been revised down repeatedly. Unfortunately, the monotonic pattern displayed by the downward revisions has not been revised. The problem of the global financial crisis quickly spread to emerging markets through various channels. The financial organizations in most of the emerging markets had by the time of the global financial crisis, not engaged themselves in practices which are prevalent in institutions which populate the financial markets in the major industrial nations. Balance sheets of these financial institutions were not therefore exposed to toxic assets which had quickly dominated positions in major financial institutions. Derivatives were less frequently employed and thus were limited to the most common traditional tools applied to hedge against risk associated with trade like currency. Banking in the in the emerging economies was old fashioned and boring because they were prevented by regulation from trading or holding collateralized debt obligations and credit default swaps (Global Meeting of the Emerging Markets Forum 2009, p. 10).
However, these nations were not protected from the global financial crisis and hence, it was brought to the emerging markets economies through withdrawal of funds by some of the bigger financial organizations from their subsidiaries found in the merging economies. The need to rebuild the capital base of the major financial institutions and the general contraction arising from the balance sheets has limited the available funding to other financial institutions in both the emerging world which rely on euro or dollar funding and the industrial countries (Goldsmith, 2009, p. 80).
The seizing up or taking up of International credit markets also contributed to the spread of the global financial crisis to emerging markets. This led to the drying up of credit which flowed via global bond markets and international banks. The drying up of credit flows therefore led to the creation of financial stress in some of the nations with emerging economies especially those in Eastern and Central Europe. Such countries took on substantial amounts of international debts and they ran up big account deficits which were too dangerous. Studies have revealed that emerging market economies have experienced a great decline in almost all capital flows categories. Countries which have been affected worst have recorded sharp depreciations and significant capital flights of their currencies (Nanto, 2010, p. 80).
General Impacts of the Global Financial Crisis on the emerging markets
The impact of the financial crisis on economic activities like for example in the United Sates of America, Europe and late on in Japan reflected itself in the sharp contraction of exports from the emerging markets of nations which had been the biggest exporters to industrial worlds. However, exports declined rapidly from other emerging economies which created a loop in an internal feedback whereby the weakening of the domestic economies of the countries' emerging markets led to the initial reduction in trade. It therefore led to further deterioration of the quality of domestic credit which impacted negatively on the financial sectors of the countries with emerging markets (Price, et al, 2010, p. 70).
The impacts of this trend are clearly shown by economic forecasts for economic growth. At the beginning of the crisis in 2007, growth rates in 2008 and above have been projected downwards as shown below. China's GDP dropped form 9.0% to 6.5 % between 2008 and 2009 while that of India dropped from 7.3 % to about 4.3 % as shown in Table 1.
Table 1: GDP Growth Projections (in percent)
2008
2009
2010
2011
World
3.2
-1.3
1.9
4.3
Advanced Economies
0.8
-3.8
0.01
2.6
US
1.1
-2.8
-0.05
3.5
EU
1.1
-4.0
-0.3
1.7
Japan
-0.6
-6.2
0.5
2.2
Emerging Market Economies
5.2
0.01
3.2
5.7
Emerging Asia
6.3
2.5
5.0
7.6
Emerging South Asia
7.0
4.3
5.3
6.6
Emerging Europe
4.0
-4.8
0.7
3.6
Emerging Americas
4.0
-1.7
1.6
3.5
Emerging Middle East
5.3
0.5
2.4
3.9
Emerging Africa
4.8
1.5
3.7
5.2
Newly Industrialized Asia
1.6
-5.6
0.8
4.4
Developing Asia
7.7
4.8
6.1
8.3
China
9.0
6.5
7.5
10.2
India
7.3
4.5
5.6
6.9
Source: IMF, World Economic Outlook, April, 2009
Table 2: Workers Remittances (US $ billions)
2006
2007
2008
2009
2010
Remittance inflows to: Emerging Market Countries
172.3
206.2
231.7
170
195
Emerging Asia
86.3
111.8
132.9
95
115
Emerging South Asia
38.7
50.4
63.3
46
57
India
25.7
35.0
45.0
30
40
China
22.5
32.0
37.0
26
34
Philippines
14.9
15.6
16.8
12
11
Vietnam
4.8
7.6
9.3
7.8
7.9
Bangladesh
5.5
6.9
8.5
6.7
7.8
Pakistan
5.4
6.0
7.1
6.8
6.9
Source: The Economist Intelligence Unit
Total remittances to emerging markets were US $ 206 in 2007. The figure dropped to about US $ 170 in 2009 before recovering to about $ 195 billion in 2010. The global financial crisis affected emerging markets through uncertain prospects of remittance which was an important source of foreign exchange and income for the economies of emerging markets. Remittances, unlike unemployment figures sometimes tend to lag the reduction in economic activities and therefore possibly lagging in the recovery. The projection of falling remittances to emerging market nations is prone to a wide margin of mistakes and therefore they depend on the assumed recovery of the world economy. The transfer of weaknesses in the service and export sectors has been aided by the fact that there is a decline of remittances from both the urban and rural people in emerging economies. The emerging economies are also affected when workers from abroad return back to look for employment in economies which are already depressed (Reddy, 2010, p. 200).
The Flow of export credits to the emerging markets and inward portfolio investment went down in 2008 as shown in Table 3. The withdrawal of Portfolio investment was a key factor behind the slowing down of emerging stock markets that went far beyond the sharp decline in advanced economy markets.
Table 3: Capital Flows, Export Financing and International Reserves
2006
2007
2008
2009
2010
Emerging Market Countries
Export Credits
37.4
48.7
62.6
-100.8
13.5
International Bond Issues
133.8
189.0
142.4
71.4
100.6
Commercial Bank Loans
403.9
505.1
453.0
195.6
254.7
Inward Portfolio Investment
156.0
231.4
-214.3
-55.2
76.9
Inward FDI
487.6
656.8
674.0
299.1
399.6
Change in International Reserves
724.2
1,248.5
458.5
-393.3
135.4
Emerging Asia
Export Credits
13.1
16.5
28.0
-42.0
7.5
International Bond Issues
46.1
46.5
39.4
23.5
30.4
Commercial Bank Loans
100.8
102.3
81.5
37.3
52.0
Inward Portfolio Investment
106.9
184.0
-159.8
-68.1
29.3
Inward FDI
215.6
303.1
317.2
127.2
165.1
Change in International Reserves
416.6
71.3
423.1
-37.7
110.8
Emerging South Asia:
Export Credits
3.6
3.2
6.8
-6.1
2.1
International Bond Issues
5.9
6.2
5.8
4.7
5.2
Commercial Bank Loans
10.2
9.8
9.2
7.0
8.2
Inwards Portfolio Investment
6.9
36.5
-15.6
5.5
16.1
Inward FDI
25.1
31.2
47.7
32.6
38.3
Change in International Reserves
43.2
102.7
-25.1
-37.6
-15.0
Source: The Economist Intelligence Unit
The global Financial Crisis will have an impact on trade in developing countries. This is because there could be spillovers for stock markets and financial contagion in the emerging markets. For instance, the stock market in Russia was forced to stop trading two times while in one day, the Indian stock market dropped by 8%. To avoid this, countries need to understand the financial linkages and how they occur and ascertain whether something can be done to reduce contagion. The economic downtown that normally occurs in developed nations can have an impact on the developing countries. The financial crisis will have an impact on trade and trade prices in developing countries because of low growth which in turn will affect other poor countries. For instance, the growth in India and China has led to increased imports and therefore pushed up the demand for oil, copper and some other natural resources which in turn led to higher prices and greater exports from even African countries (Taylor, Et al. 2009, p. 500).
The Global financial crisis will have an impact on commercial lending because banks existing in developing nations will be under pressure and therefore they may not be in position to lend as much as they used to in the past. Investors will therefore basing on the risk of some nations' emerging markets failure to pay their debts as a result of the financial failure of the Iceland. Investment in countries such as Iceland and Argentina will therefore be limited. Global financial crisis will have an impact on equity investment and Foreign Direct Investment (FDI) because they will come under pressure. Though the year 2007 was regarded as a year record for Foreign Direct Investment to the developing nations, equity finance on the other hand is under pressure and therefore project and corporate finance has started weakening in developing countries (Velde, 2008, p.4).
Given the fact that all emerging market nations have been virtually been affected by the global financial crisis, then policy responses have to be developed in order to deal with it. Because of the diversity of growth prospects, policy responses that have to be developed should be very different and unique. In order to strengthen their reserve positions in the International Financial Markets, some nations have bound themselves into swap arrangements to curb with the impacts of the global financial crisis. For instance, the United States Federal Reserve Bank entered into a non-permanent reciprocal currency arrangements aimed at providing the dollar liquidity with Mexico, Singapore, South Korea and Brazil. Through the Chiang Mai Initiative and the G7, several bilateral arrangements have been discussed, increased or agreed (Boyes, 2009, p. 152).
Policy responses
In order to counter the current recession, countries will therefore need to design and implement good policies in order to achieve the potential benefits and costs. This can be done by the introduction of stimulus packages as fiscal measures which are aimed at stimulating domestic demand while at the same time maintaining a policy measure which is capable of sustaining fiscal sustainability by the emerging markets of these countries (Goldsmith, 2009, p. 83).
From this study, it can be noticed that some of the causes of the current financial crisis are precise and clear like for instance, the lack in the financial markets of the much required degree of transparency, the inability to rectify the global imbalances which arose in the years leading to the financial crisis, the inability of the national supervisory and regulatory systems, the inability to prevent the introduction into the financial system of perverse incentives, the willingness of outspoken people in the financial institutions accepting instruments and financial innovations which they did not understand and lack of enough mechanisms to aid in the international regulatory coordination (Boyes, 2009, p. 152).
A lot of lessons can therefore be implicitly leant from the causes. The measures needed in order to correct this financial crisis that threw the whole globe into a mess will affect both international organizations and domestic agencies. In order to improve the growth prospects of almost all countries and their economies, then these nations will need substantial investment in their infrastructure. To avoid incidences where some projects may wrongly crowd out the private spending when recovery starts, projects with long gestation time frames and long planning horizons must be placed under review. All countries should therefore vigorously continue with their efforts and take the necessary actions aimed at stabilizing the global financial system. For countries to be better prepared for shocks which may arise in future, then they need to enhance crisis resilient growth and develop excellent macroeconomic management which can yield best policy responses in future. From this study, it can also be noticed that developing economies were not at all integrated into financial and economic systems. It can be well ascertained that stock market and banking collapse are responsible for having carried the crisis into the developing world. It is therefore advisable for developing countries to better understand social outcomes and be able to provide relevant social protection schemes (Goldsmith, 2009, p. 85).
