International Capital Flows, Returns and World Financial Integration
42 Pages Posted: 13 Oct 2005 Last revised: 7 Aug 2012
There are 2 versions of this paper
International Capital Flows, Returns and World Financial Integration
International Capital Flows, Returns and World Financial Integration
Date Written: May 21, 2012
Abstract
International capital flows have increased dramatically since the 1980s, with much of the increase being due to trade in equity and debt markets. Such developments are often attributed to the increased integration of world financial markets. We present a model that allows us to examine how greater integration in world financial markets affects the behavior of international capital flows and financial returns. Our model predicts that international capital flows are large (in absolute value) and very volatile during the early stages of financial integration when international asset trading is concentrated in bonds. As integration progresses and households gain access to world equity markets, the size and volatility of international bond flows declines. This is the natural outcome of greater risk sharing facilitated by increased integration. This pattern is consistent with declining volatility observed during 1975-2007 period in the G-7 countries. We also find that the equilibrium flows in bonds and stocks predicted by the model are larger than their empirical counterparts, and are largely driven by variations in equity risk premia. The model also predicts that volatility of equity and bond returns declines with integration, again consistent with the data for G-7 economies.
Keywords: Globalization, Portfolio Choice, Financial Integration, Incomplete Markets, Asset Prices
JEL Classification: D52, F36, G11
Suggested Citation: Suggested Citation
Do you have negative results from your research you’d like to share?
Recommended Papers
-
The Impact of Exchange Rate Movements on U.S. Foreign Debt
By Cédric Tille
-
An Equilibrium Model of Global Imbalances and Low Interest Rates
By Ricardo J. Caballero, Emmanuel Farhi, ...
-
An Equilibrium Model of "Global Imbalances" and Low Interest Rates
By Ricardo J. Caballero, Emmanuel Farhi, ...