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Financial Globalization and Banking Crises in Emerging Markets

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Abstract

Bank crises in emerging economies have been a feature of the recent global crisis, and their incidence has increased in the post-Bretton Woods era. This paper investigates the impact of financial globalization on the incidence of systemic bank crises in 20 emerging markets over the years 1976–2002 using measures of de facto and de jure financial openness. An increase in foreign debt liabilities contributes to an increase in the incidence of crises, but foreign direct investment and portfolio equity liabilities have the opposite effect. A more liberal de jure capital regime lowers the incidence of banking crises, while a regime of fixed exchange rates increases their frequency. The results of the econometric analysis is consistent with the experience of East European and central Asian emerging markets, which attracted a relatively large proportion of capital flows in the form of debt in recent years and have been particularly hard hit by the global financial crisis.

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Notes

  1. Angkinand et al. (2008)) and Shehzad and De Haan (2009) investigate the impact of financial liberalization on banking crises using updated versions of the financial liberalization index presented by Abiad and Mody (2005). Both papers present the results of estimations of the disaggregated index, including the impact of capital account liberalization, and both report no evidence of a significant impact of capital deregulation.

  2. Husain et al. (2005) present evidence that emerging markets experience more banking and twin crises than do upper-income or developing economies.

  3. The rise may be precipitated by an increase in foreign interest rates. See Di Giovanni and Shambaugh (2008) and Frankel et al. (2004) for evidence of these linkages.

  4. Prasad et al. (2003) provide an overview of the potential benefits of financial globalization.

  5. See Chang and Velasco (2000, 2001) for recent models of banking crises in open economies.

  6. Since we estimated models with fixed effects, we excluded countries such as Pakistan and South Africa that did not experience banking crises.

  7. Reinhart and Rogoff (2009: 10) refer to the Caprio and Klongbiel data as “authoritative, especially in terms of classifying banking crises into systemic versus more benign categories.”

  8. We did not include the real interest rate as these data are often not reported in emerging markets. There were no interest data available for over 40% of our observations.

  9. Among other researchers who used lagged values are Domaç and Martinez Peria (2003), Eichengreen and Arteta (2002) and von Hagen and Ho (2007). It is possible that the lagged values reflect expectations of future bank crises. But given the rapidity of financial events, it is unlikely that a bank crisis would not occur until the year following the change in expectations.

  10. See Quinn et al. (2010)) for a comparison of the properties of the different types of capital openness measurements.

  11. This definition corresponds to categories 1 through 8 in the Reinhart and Rogoff (2004) classification system.

  12. The estimated coefficients in a logistic regression measure the impact of a change in the independent variable on the odds ratio, i.e., the ratio of the probability of the occurrence of an event relative to the probability of its non-occurrence.

  13. Glick and Hutchison (2005) and Glick et al. (2006) report that countries with less restrictive capital controls are less prone to speculative currency attacks.

  14. The areas are defined in the Data Appendix.

  15. We omitted data for the Middle East and North African countries as many of these are oil exporters, and the Sub-Saharan African nations as most of these are developing economies.

  16. “Greece and European Banks,” Financial Times, May 3, 2010.

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Correspondence to Joseph P. Joyce.

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This paper has benefitted from the research assistance of Virginia Ritter and Leslie Shen, and the comments of two referees of this journal and George Tavlas, Malhar Nabar, Ellis Tallman, and participants at presentations at the Money, Macro and Finance Research Group meeting, the Annual Workshop in Macroeconomic Research at Liberal Arts Colleges, and the Federal Reserve Bank of New York.

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Appendix

Table 9 Data sources

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Joyce, J.P. Financial Globalization and Banking Crises in Emerging Markets. Open Econ Rev 22, 875–895 (2011). https://doi.org/10.1007/s11079-010-9179-8

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