Foreign banks, FIs lent $27 bn to India in 1st 6 mths

Even the Indian banks and FIs, which parked funds abroad to the tune of USD 11 billion, withdrew them to reinvest them in the Indian economy. As the financial crisis worsened in developed countries, particularly in Greece, Ireland, Spain, and Portugal, banks and FIs in the euro-zone shifted funds to Asia, especially China, India, Korea, and Thailand to reap gains from strong macro-economic fundamentals in these emerging countries.

"Against a background of high volatility in financial markets and worries about fiscal positions in some euro area countries, external banking activity came to a standstill in aggregate in the second quarter of 2010 after a 2 per cent recovery in the previous quarter," said BIS while releasing international banking data for end-June 2010.

It added, "Over the last five quarters (Q2 2009 to Q2 2010), claims on Asia and Latin America grew cumulatively by USD 229 billion and USD 72 billion (+34 per cent and +19 per cent) respectively, while claims on eastern Europe fell by USD 66 billion (-8 per cent) during the same period."

BIS, viewed as the 'central bank' for central banks, indicated that the drop in total financial assets in the developed countries during Q2 2010 was about USD 209 billion, while emerging markets witnessed an upsurge to the tune of USD 93 billion in the same period.

The heightened banking activity centering on sudden movement of funds from the developed countries to emerging economies in Asia pose several risks, including an expansion in the liquidity coupled with erratic movements in the stocks.

"What you have is a dangerous situation of hot monies moving at breakneck speed from one market to other in search of that extra return and causing damage while fleeing the host country," said a banker in Geneva, who asked not to be identified.

Effectively, governments should be cautious to avoid the bubble that is now building in the emerging countries following the sudden movement of banking and non-banking funds from developed countries, said an analyst.

In several Asian countries, the sudden flood of funds from abroad led to dramatic appreciation of their currencies as well as trade imbalances. Efforts are on to address this volatile situation and growing trade imbalances at the upcoming Group of 20 summit in Seoul next month.

One option considered by the G20 finance ministers early this week is to set targets to cut trade imbalances, including the need to rebalance world trade. However, finance minister Pranab Mukherjee underscored the need to adopt "a formula based on country-specific solutions" and avoid a "straight jacket" of general numerical targets, according to a report in Financial Times.