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Financial Integration, Credit Market Imperfections and Consumption Smoothing

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  • Asli Leblebicioglu

    ()
    (Economics North Carolina State University)

Abstract

Recent empirical research by Kose, Prasad and Terrones (2003) shows that financial integration is associated with higher consumption volatility in developing countries. This paper provides one possible explanation as to how international financial integration can increase consumption volatility in a developing country facing credit market imperfections. I use a two country international real business cycle model where the non-traded sector in the small country faces borrowing constraints due to contract enforceability problems. Financial integration provides households insurance against domestic risks that are amplified by the financial imperfections. If the international risk-sharing opportunities are nonexistent, households can secure themselves only by adjusting their labor effort, which leads to changes in sectorial output and terms of trade. The deterioration of the terms of trade acts as a dampening effect on consumption, causing it to be less volatile under financial autarky relative to financial integration

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Bibliographic Info

Paper provided by Society for Economic Dynamics in its series 2006 Meeting Papers with number 651.

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Date of creation: 03 Dec 2006
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Handle: RePEc:red:sed006:651

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Keywords: international business cycles; financial integration;

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  1. Backus, David K & Kehoe, Patrick J & Kydland, Finn E, 1992. "International Real Business Cycles," Journal of Political Economy, University of Chicago Press, vol. 100(4), pages 745-75, August.
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  8. John Moore & Nobuhiro Kiyotaki, . "Credit Cycles," Discussion Papers 1995-5, Edinburgh School of Economics, University of Edinburgh.
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Citations

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Cited by:
  1. Eozenou, Patrick, 2008. "Financial Integration and Macroeconomic Volatility: Does Financial Development Matter?," MPRA Paper 12738, University Library of Munich, Germany.
  2. Kose, M. Ayhan & Prasad, Eswar & Rogoff, Kenneth & Wei, Shang-Jin, 2009. "Financial Globalization and Economic Policies," IZA Discussion Papers 4037, Institute for the Study of Labor (IZA).
  3. Do, Quy-Toan & Levchenko, Andrei A. & Ravallion, Martin, 2013. "Trade insulation as social protection," Policy Research Working Paper Series 6448, The World Bank.
  4. Rudrani Bhattacharya & Ila Patnaik, 2013. "Credit Constraints, Productivity Shocks and Consumption Volatility in Emerging Economies," IMF Working Papers 13/120, International Monetary Fund.
  5. Pierre-Richard Agénor & K. Alper & L. Pereira da Silva, 2012. "Sudden Floods, Prudential Regulation and Stability in an Open Economy," Working Papers Series 267, Central Bank of Brazil, Research Department.
  6. Martin Evans and Viktoria Hnatkovska, 2006. "Financial Integration, Macroeconomic Volatility and Welfare," Working Papers gueconwpa~06-06-13, Georgetown University, Department of Economics.
  7. Bhattacharya, Rudrani & Patnaik, Ila, 2013. "Credit constraints, productivity shocks and consumption volatility in emerging economies," Working Papers 13/121, National Institute of Public Finance and Policy.
  8. Claudia M. Buch & Christian Pierdzioch, 2009. "Low Skill but High Volatility?," CESifo Working Paper Series 2665, CESifo Group Munich.
  9. Pierre-Richard Agénor & K. Alper & L. Pereira da Silva, 2012. "Sudden Floods, Macroprudential Regulation and Stability in an Open Economy," Centre for Growth and Business Cycle Research Discussion Paper Series 166, Economics, The Univeristy of Manchester.

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