New Economy and the Effects of Industrial Structures on International Equity Market Correlations

This paper investigates the effects of the ongoing changes in industrial structures arising from technology evolution and financial liberalization on the correlations of international equity markets. Empirical results point to the greater influence of industry factors on the international co-movements of equity returns, largely driven by economic integration and recent technology spillovers. First, the correlation analyses find that the cross-country correlations have not only significantly increased, but the increases also seem to be more pronounced in the sectors that relate to the new economy. Second, based on a formal multi-factor pricing model, the estimated risk exposure of the national industry index to the world industry and local market indices illustrates the growing importance of the world industry factors in the equity pricing relative to the national market. Third, emergence of industry-specific transmission in the telecom, media, and technology (TMT) sectors is indicated. The Vector Auto-Regression (VAR) analyses, where the industry-specific component of a US shock is found to transmit more globally and effectively than the country-specific component of that within the TMT sectors, support the hypothesis that the new economy has become a new channel of financial transmission, at least among the G7 markets.