A Global Dynamics of Financial Integration under Capital Market Imperfection -Delaying Financial Liberalization -

Masaya Sakuragawa and Hiroto Takahashi
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Masaya Sakuragawa: Department of Economics, Keio University
Hiroto Takahashi: Institute of Economic Research, Kyoto University

No 2009-003, Keio/Kyoto Joint Global COE Discussion Paper Series from Keio/Kyoto Joint Global COE Program

Abstract: We investigate the global dynamics of financial integration by constructing a two-country model of overlapping generations in the presence of financial market frictions. The inversed U-shaped relation between the interest rate and the capital stock brought about by imperfect enforcement becomes the source of the destabilizing behavior of the world financial market. We characterize the global dynamics that allow us to answer when and how the globalization magnifies and lessens symmetry-breaking. We observe symmetry-breaking accompanied by continued capital flows from the poor to the rich when there are stable asymmetric steady states. However, when the stable symmetric steady state coexists with asymmetric ones, we observe either convergence or symmetry-breaking, depending on developing stages when financial integration occurs. There are threshold levels of wealth only above which financial integration leads to convergence. Even when there is the unique stable steady state, we observe the short-run symmetry-breaking accompanied by the endogenous reversal of capital flows. We have cases when early financial integration leads to symmetry-breaking, but late one attains convergence. Emerging market countries can go on the convergent path by delaying the timing of opening capital accounts until they have reached some threshold level of wealth.

Pages: 50 pages
Date: 2009
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