Global Economy and Capital Flows

This assignment delves into the intricate relationship between global capital flows and international trade. Students are tasked with analyzing how capital movements influence trade patterns, economic development, and financial systems. Specific case studies on China and Singapore's experiences with industrialization, capital controls, and foreign investment are examined to illustrate key concepts. The assignment encourages critical thinking about the role of capital in shaping the global economy.

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
International trade, finance and investment
Name of the Student:
Name of the University:
Author Note:

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Executive Summary:
The report is prepared to evaluate the working of financial markets in allocation of capital within
international as well as domestic economy. Analysis of allocation of capital in the financial
system of home or domestic economy that is United Kingdom is done. Furthermore, the
emerging economy that has been chosen for the analysis of capita allocation is China.
Explanation of the capital allocation has been done in several aspects such as investments,
borrowing, financial instruments and stock exchange.In the later part of report, several
challenges faced by Chinese economy due to trade policies and industrialization have been
discussed.

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Table of Contents
Background of financial markets:....................................................................................................4
Capital allocation within domestic economy (United Kingdom):...................................................6
Capital allocation within international markets:............................................................................11
Evaluation of emerging economy (China):....................................................................................12
Critical evaluation of challenges that country faces due to industrialization and trade policies:..14
Conclusion:....................................................................................................................................15
Reference lists:...............................................................................................................................17

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Background of financial markets:
Financial market is one of the marketswhere people come together to trade financial
securities as well as commodities and values at low transaction cost as it reflect both supply and
demand. In addition, securities take into account stocks, bonds as well as commodities that
involve precious metals or agricultural products. The term financial markets had broader
meaning as it describe any marketplace where people trade securities that include equities,
derivatives and bonds. Global financial market is faced with large magnitude that reflects desire
of investors to make investment globally and creating diversification across constantly rising
global flows and growing number of securities. Global economic growth is fostered by
interconnection of global market at global level that helps in facilitating direct and indirect flow
of trade and thereby increasing wealth of investors (Brandt et al. 2013).
There are many regulators in global financial system that helps in enhancing financial
stability. Central banks helps in regulation of bank for all the respective economies that is
domestic and international. The federal reserve system of banks are categorized in to categories
such as it helps in conduction of monetary policies by influencing the credit and monetary
condition of economy in pursuit of moderating long-term interest rate, stable prices
and ,maximum employment. Central banks helps in regulation and supervising of banking
institutions and this helps in ensuring soundness and safety of financial and banking system of
economy. It helps in protecting credit rights of investors. Banks helps in providing depository
institution, foreign official institutions with financial services and has a major role in the
payment system of nation (Barnett et al. 2014).

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Mechanisms
The mechanism of financial market is the system, structure and conventions that helps in
facilitating trading and issue of shares. Some of the main elements of international financial
market is international debt market, international currency market, international securities
market, public institutions, financial institutions, market for derivate financial instruments and
department of currency exchange and foreign exchange. Two types of market in the financial
system includes over the counter market and exchange drive market.
Tools or instruments
The international capital market is dominated by many exchanges that comprise of
forward market, future market and spot market. Stock exchanges such as London stock
exchange, Shanghai stock exchange and Now York stock exchanges enables traders and business
to deal with foreign transactions by providing a platform that facilitates exchange of money.
Derivative instruments-These are the instruments that derive their value from the
characteristics of one or more underlying entities such as interest rate, index and assets. Such
instruments are over the counter and exchange traded derivatives.
Cash instruments-Cash instruments are instruments whose value are directly derived
from markets and they are readily transferrable. Such instrument involve securities and
instrument such as deposits and loans. Some of asset instrument involves deposit account,
financial assets and loan and receivables.

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Securities and over the counter derivatives are another types of financial instruments.
Securities involve stock, bonds and treasury bills. On other hand, over the counter derivatives
involves instruments such as forward rate agreements, interest rate swaps and stock options.
Capital allocation within domestic economy (United Kingdom):
The financial sector of United Kingdom is one of the largest in the European Union and
the largest financial center in Europe is city of London. Financial markets help in bringing
improvement in the allocation of capital within the home country (United Kingdom). In addition,
efficiency of capital allocation is viewed as negatively correlated with the extent of state
ownership in the present economy as well as positively correlated with the amount of firm-
specific information especially in domestic stock returns. It mainly positively correlates with the
legal protection of minority investors (Desierto 2015). Therefore, strong minority investors help
in curbing overinvestment especially in declining industries.
The improvement in capital allocation of economies is done in there ways. In the first
instance, countries impounding specific information into individual prices of stock have less
synchronicity in their prices of stock. Secondly, as there is declining state ownership would lead
to improvement in capital allocation. Thirdly, better allocation of capital is associated with
strong minority rights of investors. In regard to minority rights to investors, United Kingdom
scores highest. The management of assets make up large market for capital market in UK.
Channeling of new capital to public and private companies involves fewer role asset
management. One of the important intermediary in the financial system of country is asset
management industry due to underlying connection between clients’ service and investments
(theinvestmentassociation.org 2017). This particular comes with implications for both growth
within economy and returning to millions of saver and investors. In this regard, it is required to

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
have better understanding of role that is played by asset management industry in primary
markets. The efficient allocation of capital and pooling the savings efficiently on behalf on
savers and investors is done by activities of assets managers. The funding of UK economy is
done by asset management by way of capital allocation, long-term holding period, stewardship
and role in crisis finance, diverse financing channel and making shift to debt finance.
 Allocation of capital- One of the significant facilitators of funding of UK companies are
function of capital allocation of asset management firms. This particular capability has
the extension over funding structures, multiple assets class and supply of funds over
economic cycle.
 Role in financial crisis and stewardship- Asset management firms has an important role
in engagement and stewardship and assisting supplying of new finances by building long-
term relationships.
 Long-term period of holdings- Potential for long-term holding facilitates the successful
allocation of capital that helps in engaging with companies for long.
 Diverse financing channels- making debt investment extends beyond public corporate
debt market to several infrastructure projects such as social housing.
 Inclination towards debt finance- In the changing landscape of capital market in UK,
asset manger role as debt investor is becoming crucial. Organizations are able to reduce
their cost of capital by having access to cheaper financing through bonds and gaining new
access to capital markets.
Majority of households in UK relies on services of asset management firms for portfolio
diversification, investment vehicles provisions, and strategies of investment and wide range of
class of assets. Portfolio diversification is provided by investment vehicles that are run by asset

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
managers and they enable individual investors to make investment in wide range of class of
assets. Asset management products provide investors with core management products that assist
them in delivering economies of scale.
Significant indicator of funding of companies in UK is the function of capital allocation
of asset management firms. This in turns helps in contributing to long-term growth in
productivity. Capability of productivity growth is extended across funding and multiple asset
class structures and supplying of funds to economic cycle of nation. Long term holdings helps in
facilitating successful allocation of capital that helps in engaging with companies on long term
basis. In the context of changing capital market landscape, role of asset managers has been
changed as debt investors. Cheaper bond financial has helped organizations in reducing their cost
of capital and maintaining access to new capital compared to borrowing money from banks
(Dabla-Norris et al. 2015). Country has diversified financial channels as the investments is
beyond public corporate debt markets to a variety of infrastructure projects and alternative form
of debt finances.
Pension fund asset allocation of UK:
(Source: un.org 2017)

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Ownership of financial assets by UK households:
(Source:theinvestmentassociation.org 2017)
The most common form of ownership of financial wealth is personal and occupational
pensions. This comprise of defined contribution schemes and direct ownership of securities. Due
to prevalence of private pension funds, importance of assets managers is growing over time.
Great variations exist in size of holding of financial assets and this have impact on society wealth
distributions (Cowling et al. 2015).
Stock Exchange- London Stock Exchange is one of the stock exchanges that is located in
the city of London, England and is one of the oldest stock exchanges that help in tracking the
history back for more than 300 years. The stock market in UK helps investors to either buy or
sell shares of publicly listed companies. In addition, the primary stock market is where the new
issues of stock are initially offered and any of the other trading of stock securities takes place in
secondary market (Dustmann and Frattini 2014).
Risk and profit potential players- The liquidity supplied by Bank of England is
distributed by the activities of money market. Distribution of liquidity by market participants
does not require recourse of facilities of bank of England. In recent year, no official intervention

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
has been required by foreign exchange market of pound sterling. Traders might face difficulties
in managing their positions in stressing situation because of increasing lumpiness of order flows
and liquidity of both markets. The interbank system of money market of UK has the potential of
acting as channel of contagion in some extreme circumstances. Health of other financial
institutions is threatened by major bank failure in honoring their obligations. Management of
settlement of risk can be enhanced from the foreign exchange settlement through banking
relationships. Integrity of London clearing house is threatened by exposures to intraday risk and
nation is seeking to resolve this issue due to its importance in global financial markets and UK
(Henry 2013).
Investment- An active role is played by financial exchange in London in intermediating
securities and funds for both international and domestic investors. In recent years, UK has to
cope up with number of major shocks like any other major markets. Due to changes in
investment and accounting rules in UK, equity and debt markets have to cope up with all such
changes. In this activities, holding of equities in related to fixed income securities for insurance
companies are getting reduced. Future regulations of UK market have been significantly
impacted by some developments such as moving to approach of risk based supervision and
consolidation of regulators of securities. Compared with other industrialized countries, there is
high quality of trading on financial exchanges of UK and the market for exchange rate function
well. A competitive threat to exchanges is posed due to alternative trading system and over the
counter market. The stability of UK financial market is not considerably impacted by global
financial market activities that is taking place in London (Rodan 2016). Some of significant
player in domestic market is due to existence of some of UK institutions and the domestic
financial system is insulated by the financial system of country.

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Borrowing- In the face of rapid growth in borrowing of car finance, credit cards and
personal loans, the financial position of banks is strengthened by the apex bank that is bank of
England. There has been rapid increase in consumer credit and lending condition in market have
become easier. Annual public borrowing by UK government has reduced and public sector net
borrowing has fell to £ 48.7 billion (Song et al. 2014). In the new month of financial year,
borrowing was high. However, total borrowing in coming year is expected to rise and total net
debt of government as proportion of gross domestic product is higher than previous year.
Net borrowing in UK:
(Source: Cowling et al. 2015)
Fiscal policy- UK government in recent year has been shifting from monetary policy to
Fiscal policy and steps have been taken by government to boost economic activities. Economic
growth can be stimulated by some fiscal measures such as increased spending and cutting down
of tax. Fiscal policy is the efforts taken by UK government deliberately intended for achieving

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
desirable macro and micro economic objectives by altering composition and level of aggregate
demand in economy. It is a tool of macroeconomic management that influences change in rate of
economic growth. The purpose of this particular policy is to keep inflation at lower level,
economic growth stimulation during recession period and economic growth stabilization by
avoiding bust and boom in economic cycle. Effort of UK government to apply fiscal stimulus is
constrained by the impact of Brexit. UK government can adopt expansionary fiscal policy and
deflationary fiscal policy (Dustman and Frattini2014). Adopting expansionary fiscal policy in
economy helps in increasing aggregate demand that involves government to cut down their tax
and increase their spending. Lowering tax level in economy will help in increasing spending of
consumers as they will have more disposable income on their part. The ultimate impact of this
policy will be on deficit budget of government as it tends to worsen and result in increase
borrowing on part of government. On other hand, adopting deflationary fiscal policy will lead to
decrease in aggregate demand that requires government to increase taxes and lower spending that
will consequently reduce spending of consumers (Feenstra et al. 2014). This will help in
improving deficit in government budget.
Capital allocation within international markets:
The allocation of capital in the international market can be explained by discussing about
trade theories. Countries trade because of potential economic disadvantage in producing goods
and services in their home countries. Notion of international trade theories is that companies
aspire to develop their own internal market when transactions can be made at lower costs. The
international trade theories that can be discussed in this context is classical trade theory and
factor proportion theory. It is dictated by classical theory that the extent of importing and
exporting by country is related to trading nations. Countries are able to gain if they are producing

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
that goods and services in which they have competitive advantage. Countries have indigenous
consumption and they can export the surplus. They should imports such goods in which they
have economic disadvantage. Differences in resource endowment and production characteristics
is sourced as the basis of international trade. However, cause of differences in relative advantage
has not been explained by this theory. On other hand, differences that are exhibited by trading
countries is explained by factor proportion theory. As per this theory, products and services
harnessing large amount of factors will be exported and imports of those goods are done that
require factor of production that are relatively scarce (Melvin and Norrbin 2017).
In recent decades, there has been substantial increase in cross border capital flows.
Companies and countries in developing and developed countries for finance purpose is relying
on international investors. Investors tends to own the past majority of bonds if the bond is
dominated in one particular currency. It has been ascertained that portfolio of foreign investors
are biased against local currency. Foreign investors from developed countries makes investment
in bonds of emerging economies. This presumably reflects weaker institutions, risk of inflation
and capital markets that are less developed. As per the global survey, the percentage of investors
that bas their allocation of capital on financial return constitutes 47% after accounting for
synergies and risks (Gopinathet al. 2014). Balance of capital allocation by companies is between
strategic replacement, strategic replacement and maintenance investment.
Evaluation of emerging economy (China):
Bank lending in China has witnessed boom due to expansionary credit policies by
government. Chinese organization has been lifted due to rising tide of banking credit. Fats
growing private companies in China finds it costly and hard to borrow. The overall economic
growth and inhibiting choice of Chinese consumers is stifled by credit allocation of China.

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Stock market- Capital allocation of Chinese stock market is poor and the capital
investment is not changed by stock market through stock price led to higher rate of return.
Country faces inefficient allocation of capital function and there is waste and mismatch of
capital. Value development of stock market is the optimization of capital market and the
efficiency in the system of stock market is reflected by efficient function of capital market.
Inefficiency in Chinese stock market is reflected by lower functional efficiency of capital
allocation of stock market (Kenwood et al. 2014).
China will be witnessing economic development that is presented by marked shift in
emphasis from high to sustainable, quality and balanced growth. The financial system of China
dos an extraordinary job in mobilizing saving and the improvement in capita allocation can be
done significantly. Gross domestic products can be raised by reforms in the financial system and
most of funding of financial system is absorbed by state owned enterprise. Overall productivity
of economy has been reflected in large volume of non performing role in the banking system of
China (Martin et al. 2015). There has been decline in investment efficiency and productivity of
organization will be boosted by increased funding for making private enterprise more productive.
Better allocation of capital will help in creating higher return on savings. This would provide
increased benefit to Chinese household. By international standards, household of China has
increased savings, however savings is done either in saving account or low yielding bank
deposits. Consumer options for deposit in banks is rational because of volatility of equity and
bond market and lower average returns over the past ten years (Foley and Manova 2015).
Return on deposit of banks is dismal due to comparatively higher financial intermediation
cost and poor allocation of capital by banks. The earning of financial assets of Chinese
household has been lower compared to other countries. Allocating capital in better way would

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provide nation with many benefits and despite these, regulators in China have resisted making
changes presumably for maintaining stability and preserving jobs. Inefficient operations of
banking system and underdeveloped equity and debt market is equally detrimental to the overall
financial system. The dominance of banking system in China amplifies the poor capital
allocation of banks (Sornarajah2017).
Debt, equity and bond market in China is smallest in the world and the proportion of
corporate market bond presents 1% of total value of Gross domestic product compared to other
emerging economies that have 50% of gross domestic product. Organization in China require
fully developed equity and bond market and a better choice of funding vehicles. Cost to issuing
companies would be reduced by improving efficiency of equity market of China. Development
of attractive financial products such as pension funds, insurance and mutual funds would be
underpinned by flourishing bond and equity market (Carpenter et al. 2015). Furthermore, China
have small capital markets that are used particularly for small and medium enterprises.
Inappropriate regulations have been then main factor attributable to slow development of
corporate bond market. Growth of institutional investors is held back due to excessive
regulations and there also exist strict capital flows.
Chinese government is explicitly responsible for managing and planning the national
economy and guiding development of country. The implementation of economic plan and
policies is done by variety of direct and indirect mechanisms. Direct control is exercised by
government through allocation of supply of goods and services and designating specific physical
output. Operations of affected marketing incentives are done by adopting indirect mechanism
such as economic levers. Mechanisms comprised of settling of process for goods and services,
levying taxes, controlling and monitoring of financial transactions by banking system, allocation

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
of investment funds and controlling scare resource allocation such as electronic power, skilled
labor, chemical fertilizer and steel (Downes and Goodman 2014).
GDP growth rate of GDP:
(Source: Gopinath et al. 2014)
Supervision of foreign trade is done by Ministry of Foreign economic relations and trade,
Bank of china, General administration for custom, and foreign exchange arm of banking system
in country. Some specific policies concerning capital market in China is deregulation of interest
rate, permitting new entrants in the process of initial public offerings and financial services and
laws reimplementation. 13th five year plan of China is intended to promote decentralization and
enhancement of intra regional development by building infrastructure. Success of china in
raising productivity of labor and prioritizing productivity growth acceleration is recognized in
the latest plan.

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Critical evaluation of challenges that country faces due to industrialization and trade
policies:
The main challenge would be faced by China resulting from its poor financial system that
comes from the relationship between equity markets, bond market, and payment system and
banking sector. In light of this, main challenge faced by China is to strengthening of intellectual
property protection in relation to foreign trade and it is required to strengthen cooperation and
dialogue in this particular area. For the healthy development of intellectual property, government
of China is required to strengthen cooperation and exchange within its legislative framework and
international conventions (Sornarajah2017). There are many uncertainties that will be hampering
foreign trade of China.
Role of Chinese government in controlling market:
In recent year, there was a dramatic fall in the capital market of China that called
government interventions forcefully. Purchasing and selling of shares in capital market is stringy
restricted by measures taken on part of government that was considered necessary to regulate and
correct the market operations. Policies have been issued by government for encouraging
companies to maintain higher prices of stocks that are not considered sustainable. Such policies
comprised of banning sell of parts of companies and issuing cash dividends. The effectiveness of
determined reforms is demonstrated by Chinese government that helps in maintaining fast
economic growth and a society that is stable. The economic success of China should be
attributable to government of China.
Secondly, challenge is faced in terms of transition of trade development model and
restrictive measures and restricted capital control and services is another challenge faced by

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Chinese trading industry. Inappropriate and discretionary regulatory reforms has to be
dismantled along with various restrictions on cross border supply services (mckinsey.com 2017).
Thirdly, China is confronted with foreign interests demanding challenge and this involves
regional and international collective actions, institutionalized world and rule based trading
system, trade negotiations and bilateral economic dialogues. The transition in trade and
economic development of China are confronting some of challenge such as restricting market
access of export by how new global trade protectionism should be addressed. Challenge is faced
in overcoming price volatility, newly released regulations in Chinese market and accommodating
rising labor cost at domestic level (mckinsey.com 2017).
While discussing about trading system of country, it is essential to discuss one of the
most important trade theory that is theory of comparative advantage. As per this theory, a
country is said to have comparative advantage in goods production if it produces goods at lower
opportunity costs compared to another country. Comparative advantage of China is in terms of
availability of cheaper labor and export pattern of country coincide with comparative advantage
(Brandt et al. 2013). It is indicated by some research findings that whether export flows of
country is impacted by export strategy of comparative advantage.
There is urgent requirement to reduce trade barriers faced by China in their existing trade
regime. It should be done in improving transparency of tariff quota management and state
trading, high requirement of capital, branching service sector restrictions and phasing out exports
restraints that are not adequate. In-depth domestic structural issues have been witnessed that is
required to be dealt with by coordinating among administrative and legislative institutions.

INTERNATIONAL TRADE, FINANCE AND INVESTMENT
Concerning trade negotiations, Chin should actively engage in plurilateral trade negotiations of
WTO (Graham et al. 2015).
Conclusion:
The above report presented provides discussion of financial market of UK and China. It
has been inferred from the analysis of capital allocation of countries that UK has better capital
allocation compared to China. Reasons are attributable to the fact of enhanced role of asset
management firms in capital allocation in UK capital market. This provides investors with wide
range of benefits ranging from wide portfolio diversification to making investment in wide range
of asset classes. Analysis also depicts that there are several challenges faced by Chinese
economy in terms of capital allocation. In this regard, it is required by China to adopt strict
capital control and policy development to protect capital and bond market of China. More private
companies should be allowed to issue bonds by abolishing preferential access to market by
regulators. A coordinated system needs to be introduced by regulatory bodies of China’s
financial system. Furthermore, it is essential to speed up the growth of domestic investors so that
they are capable of buying corporate bonds. Therefore, it is required to develop Chinese capital
market that helps in overall financial system development. Investors seeking investment in
Chinese economies should perform in depth analysis of financial system before undertaking any
investment.

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