Equilibrium interest rates and financial liberalisation in developing countries

Roland Clarke

Journal of Development Studies, 1996, vol. 32, issue 3, 391-413

Abstract: It is a central argument of the financial repression literature that interest rates should be determined by the market to reflect the true cost of capital. This article suggests that the notion of an ‘equilibrium interest rate’ may be undefined since the rate required to balance financial markets differs from that required to equilibrate savings and investment. Thus liberalisation introduces an intrinsic instability into the financial system as a result of portfolio adjustment. The article examines the Chilean and Korean experiences and concludes that a sustainable reform requires positive but low real interest rates and broad regulation of the financial system to ensure macroeconomic stability.

Date: 1996
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DOI: 10.1080/00220389608422421

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