On the Welfare Implications of Financial Globalization without Financial Development

   (579 K)

It is widely argued that countries can reap large gains from liberalizing their capital accounts if financial globalization is accompanied by the development of domestic institutions and financial markets. However, if liberalization does not lead to financial development, globalization can result in adverse effects on social welfare and the distribution of wealth. We use a multi-country model with non-insurable idiosyncratic risk to show that, if countries differ in the degree of asset market incompleteness, financial globalization hurts the poor in countries with less developed financial markets. This is because in these countries liberalization leads to an increase in the cost of borrowing, which is harmful for those heavily leveraged, i.e. the poor. Quantitative analysis shows that the welfare effects are sizable and may justify policy intervention.

Published: On the Welfare Implications of Financial Globalization without Financial Development, Enrique G. Mendoza, Vincenzo Quadrini, José-Víctor Ríos-Rull, in NBER International Seminar on Macroeconomics 2007 (2008), University of Chicago Press

This paper is available as PDF (579 K) or via email.

Acknowledgments

Machine-readable bibliographic record - MARC, RIS, BibTeX