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Call for Papers: PIER Research Workshop 2025
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9 January 2018
20181515456000000
No. 079

The Impact of Imperfect Financial Integration and Trade on Macroeconomic Volatility and Welfare in Emerging Markets

Abstract

This study examines how international integration impacts macroeconomic volatility and welfare in emerging market economies (EMEs), employing a two-country real business cycle model with constrained cross-border borrowing and imperfect access to international financial market. Parameter calibration employs 2000–2013 trade and external debt data from EMEs. The simulation shows that higher foreign debt raises output volatility, slightly reduces consumption volatility of entrepreneurs who can borrow abroad, and brings about welfare loss due to higher debt interest payments and less consumption. Households who can only save in domestic markets are largely unaffected. Restricted financial integration does not have much adverse impact when people face no other frictions domestically, suggesting the importance of domestic financial development. Higher international trade tends to be favorable for output variability, consumption smoothing, and welfare, but does not play a significant role on how cross-border borrowing affects macroeconomic volatility. The results suggest that the impacts of financial and trade integration are generally independent. It might be difficult for EMEs to achieve evident gains from greater financial integration even with high trade intensity when market imperfection exists. Increasing only trade or both types of integration together can be Pareto improving that lowers aggregate fluctuation, whereas increasing only private external debt is not.

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JEL: E32F15F30F41
Tags: financial integrationtrade integrationemerging market economiesmacroeconomic volatilityconsumption smoothingbusiness cycles
The views expressed in this workshop do not necessarily reflect the views of the Puey Ungphakorn Institute for Economic Research or the Bank of Thailand.
Lathaporn Ratanavararak
Lathaporn Ratanavararak
Puey Ungphakorn Institute for Economic Research

Puey Ungphakorn Institute for Economic Research

273 Samsen Rd, Phra Nakhon, Bangkok 10200

Phone: 0-2283-6066

Email: pier@bot.or.th

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