Does Financial Crisis Promote Financial Globalization in Developing Countries?

• In Event: Research in Five (Graduate Students) Session II

Abstract

Many studies linked economic hardship to liberal economic reform in the 1990s (Haggard, 2000; Haggard & Maxfield, 1996; Nelson, 1990; Rodrik, 1996). However, “there is strikingly little cross-national evidence” (Pepinsky, 2012, p. 544) for the impact of the experience of the financial crisis on financial globalization. Financial crises create unique political-economic environments. In times of crisis, international financial institutions, most obviously the International Monetary Fund (IMF), get more involved (Chwieroth, 2009; Mukherjee & Singer, 2010; Woods, 2006). On the domestic side, the incentives for the banking sector to pressure for financial integration rise (Pepinsky, 2012). Furthermore, governments can take advantage of the times of crises to implement policies otherwise politically too costly (Mukherjee & Singer, 2010). All these consequences of the financial crisis anticipate a positive effect of crises on financial globalization. This paper provides empirical evidence of association between financial crises and financial globalization through a panel data of 66 developing countries between the years of 1973-2005.
By shifting the focus from de jure capital account liberalization to de facto financial globalization, this research examines how financial crises affect actual financial integration of the developing countries. National responses to financial crises are political and shaped within the domestic institutional context (Pempel, 1999; Pempel & Tsunekawa, 2015; Pepinsky, 2014). Thus, scholars have already analyzed the macroeconomic and financial policies created in times of crisis and demonstrated political and institutional determinants. However, further financial integration or disintegration is rarely analyzed as a consequence of financial crises, especially with political and institutional determinants. Building this link is essential in three ways. First, the vastly used capital account openness measures exclude other dimensions of financial liberalization such as foreign bank entry, foreign ownership of assets and so on. Thus, although (Pepinsky, 2012) demonstrates a robust association between currency crisis and capital closure, (Pepinsky, 2013) finds a positive correlation between crisis and bank liberalization. Through a more aggregate measure of actual financial globalization, this study indicates an overall impact of crises on financial integration. Second, economists have recently warned that financial actors increasingly evade capital controls (Kose, Prasad, Rogoff, & Wei, 2009; Rajan, 2007). Thus, de jure capital account liberalization is no longer an indicator of the actual financial integration. For analysis of implications and determinants of financial integration, de facto financial globalization measures are of significance. Third, linking crisis and the interest groups’ relative power of shaping the policy outcome regarding financial globalization creates a theoretical room for the politicization of financial globalization. Scholars have increasingly pointed out the controversial outcomes of capital account liberalization, but the determinants of financial globalization are suggestive of space national governments have on financial policies during times of crisis along with the impact of institutional context and power distribution amongst international and domestic interest groups regarding the actual integration outcome. Thus, a political approach to financial globalization enlightens the ways in which financial crises cause financial integration.

Author

• Busra Soylemez, University of Delaware