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On the Welfare Implications of Financial Globalization without Financial Development

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  • Enrique G. Mendoza
  • Vincenzo Quadrini
  • José-Victor Ríos-Rull

Abstract

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.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 13412.

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Date of creation: Sep 2007
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Publication status: published as 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 , Clarida and Giavazzi. 2008
Handle: RePEc:nbr:nberwo:13412

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  1. V. V. Chari & Patrick J. Kehoe & Ellen R. McGrattan, 1996. "Sticky Price Models of the Business Cycle: Can the Contract Multiplier Solve the Persistence Problem?," NBER Working Papers 5809, National Bureau of Economic Research, Inc.
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  5. Pierre-Olivier Gourinchas & Olivier Jeanne, 2006. "The Elusive Gains from International Financial Integration," Review of Economic Studies, Oxford University Press, vol. 73(3), pages 715-741.
  6. Mendoza, Enrique G & Tesar, Linda L, 1998. "The International Ramifications of Tax Reforms: Supply-Side Economics in a Global Economy," American Economic Review, American Economic Association, American Economic Association, vol. 88(1), pages 226-45, March.
  7. David K. Backus & Patrick J. Kehoe & Finn E. Kydland, 1991. "International real business cycles," Staff Report, Federal Reserve Bank of Minneapolis 146, Federal Reserve Bank of Minneapolis.
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  9. Debreu,Gerard Introduction by-Name:Hildenbrand,Werner, 1986. "Mathematical Economics," Cambridge Books, Cambridge University Press, Cambridge University Press, number 9780521335614.
  10. Christopher D. Carroll, 1996. "Buffer-Stock Saving and the Life Cycle/Permanent Income Hypothesis," NBER Working Papers 5788, National Bureau of Economic Research, Inc.
  11. Enrique G. Mendoza, 1991. "Capital Controls and the Gains from Trade in a Business Cycle Model of a Small Open Economy," IMF Staff Papers, Palgrave Macmillan, vol. 38(3), pages 480-505, September.
  12. Huggett, Mark, 1993. "The risk-free rate in heterogeneous-agent incomplete-insurance economies," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 17(5-6), pages 953-969.
  13. Quadrini, Vincenzo, 2005. "Policy commitment and the welfare gains from capital market liberalization," European Economic Review, Elsevier, Elsevier, vol. 49(8), pages 1927-1951, November.
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