Volatility and the welfare costs of financial market integration

Pierre-Richard Agénor and Joshua Aizenman

No 1974, Policy Research Working Paper Series from The World Bank

Abstract: The authors examine the effect of volatility on the costs and benefits of financial market integration. The authors use a basic framework that combines the costly state verification model and the contract enforceability approach. They assess the welfare effects of financial market integration by comparing welfare under financial market integration and comparing welfare under financial autarky and financial openness. Under financial openness, foreign banks, which have lower costs of intermediation and a lower markup rate, have free access to domestic capital markets. The analysis shows that financial integration may be welfare-reducing if world interest rates under openness are highly volatile. The authors extend the basic framework in various directions. They show that opening the economy to unrestricted inflows of capital, in particular, may magnify the welfare cost of existing distortion, such as congestion externalities or deposit insurance.

Keywords: Banks&Banking Reform; Economic Theory&Research; Environmental Economics&Policies; Financial Intermediation; Financial Economics (search for similar items in EconPapers)
Date: 1998-09-30
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Citations: View citations in EconPapers (9)

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Related works:
Working Paper: Volatility and the Welfare Costs of Financial Market Integration (1998)
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