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The Domestic Financial Market and the Trade Liberalization Outcome: The Evidence from Sri Lanka

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  • Prema-chandra Athukorala

    (School of Economics, La Trobe University)

  • Sarath Rajapatirana

    (School of Economics, La Trobe University)

Abstract

The authors developed a framework for analyzing the relationship between domestic financial markets and the effects of trade liberalization and applied it to Sri Lanka's experience between 1977 and 1987. They found that the domestic financial market significantly affects the outcome of trade liberalization. Because Sri Lanka deregulated its interest rates when it undertook the trade liberalization, this allowed those earning more from trade liberalization to hold financial assets rather than nontradables. The availability of savings and time deposits at attractive interest rates prevented the premature appreciation of the exchange rate, thus helping to maintain the competitiveness stimulated by trade liberalization. By reforming interest rates, removing credit ceilings, and increasing competition among banks, Sri Lanka helped increase private sector savings - which could be reallocated to the tradable sector. Unlike earlier studies on financial reform in Sri Lanka, this one finds that financial reforms have increased private savings in financial institutions, raised economywide financial intermediation ratios, and expanded credit to the private sector. More important, the authors find a statistically significant relationship between the financial intermediation ratio and the real exchange rate.

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Bibliographic Info

Paper provided by School of Economics, La Trobe University in its series Research Papers with number 1991.01.

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Date of creation: 1991
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Handle: RePEc:trb:rpaper:1991.01

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  1. Corden, W. Max, 1990. "Exchange rate policy in developing countries," Policy Research Working Paper Series 412, The World Bank.
  2. Buffie, Edward F., 1984. "Financial repression, the new structuralists, and stabilization policy in semi-industrialized economies," Journal of Development Economics, Elsevier, vol. 14(3), pages 305-322, April.
  3. Mario I. Blejer & Mohsin S. Khan, 1984. "Government Policy and Private Investment in Developing Countries (Politique des pouvoirs publics et investissement privé dans les pays en développement) (Política estatal e inversión priva," IMF Staff Papers, Palgrave Macmillan, vol. 31(2), pages 379-403, June.
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