Emerging Markets Are Catching Up: Economic or Financial Integration?

Abstract

We propose a simple metric to measure two aspects of market integration, namely, economic integration (defined as a common cash-flow dynamic) and financial integration (defined as a common risk-pricing dynamic) and then examine their evolution through time while controlling for volatility. We find that developed (DEV) countries exhibit greater degrees of financial and economic integration than emerging (EMG) markets. Although the financial integration gap between these markets remains large throughout the sample period, the EMG economies are catching up with their DEV counterparts in recent years; their level of economic integration has reached that of DEV countries.

International Market Integration: A Survey

“…Akbari et al (2019) postulate that if markets are financially integrated with the same pricing kernel, country‐specific revisions in risk pricing should move in tandem across the world. Similarly, in an economically integrated world economy, country‐level cash‐flow news should move in tandem with global cash‐flow news.…”

“…Prior research has attempted to measure economic integration by examining trade barriers, labor and capital mobility, openness of economies, or the extent to which the law of one price holds (e.g., Kalemli‐Ozcan et al , 2001; Nowotny et al , 2009). Akbari et al (2019) are the first to propose explicit measures of financial and economic integration within a unified theoretical framework, as shown in equation (19). More importantly, their measures are time‐varying, thereby enabling them to examine the evolution of integration through time and across DEV and EMG markets.…”

“…Akbari et al . 's (2019) measure of economic and financial integration. The figure shows Akbari et al 's (2019) measure of economic () in the top panel and financial integration () in the bottom panel.…”

“…'s (2019) measure of economic and financial integration. The figure shows Akbari et al 's (2019) measure of economic () in the top panel and financial integration () in the bottom panel. () is proxied by the squares of conditional correlations of country cash‐flow news (risk‐pricing adjustments) and world cash‐flow news (risk‐pricing adjustments).…”

“…It is important to stress that Akbari et al 's (2019) return‐decomposition approach has several advantages over Campbell and Shiller’s (1988) and Campbell's (1991) variance decomposition approach adopted by Ammer and Mei (1996) and Baele and Soriano (2010). The latter methodology is sensitive to the choice of sample periods and selection of instruments (see, e.g., Chen and Zhao, 2009; Chen et al , 2013).…”