As the financial crisis spreads out from its crucible in the US and UK, it has given rise to considerable discussion about its impact on developing countries. The situation itself is novel because previous international financial crises, the Third World Debt Crisis of the 1980s and the emerging market crises of the 1990s, spread from developing or emerging markets, so that developing countries were incriminated and affected from the start.

In the present crisis, the developing countries, for once, were not in the room when the crisis broke. Given the immense range of economic circumstances and exposure to international financial markets among the developing countries, the manner in which they are being affected is inevitably going to be more complex and indirect than in previous crises.

Current economic theory gives little guidance as to how the crisis will impact upon the developing countries. This is partly because the starting point of mainstream economic theory is optimization based on setting policy parameters that will secure internal and external equilibrium for a given country. It is more realistic to use a stock-flow analysis that places developing countries within a given structure of international economic and financial flows which are largely determined by expenditures in rich countries. Within this framework, assets and liabilities are largely determined by the history of past market disequilibria, rather than saving or portfolio preferences.