Does Financial Integration Reduce Consumption Volatility and Lead to Consumption Smoothing? - A Case of Latin America


JOURNAL OF APPLIED ECONOMICS AND BUSINESS RESEARCH, vol.7, no.2, pp.97-115, 2017 (Journal Indexed in ESCI) identifier

  • Publication Type: Article / Article
  • Volume: 7 Issue: 2
  • Publication Date: 2017
  • Page Numbers: pp.97-115


Almost all developing countries have liberalized their financial markets over the last thirty years. In this regard, developing Latin American countries attract great attention as experiencing both intensive capital flows after liberalization and capital outflows in later periods. It is of importance to examine the positive and negative effects of financial integration on these economies. This study aims to analyze the effect of financial integration on the volatility of consumption - which is an important macroeconomic volatility indicator-in Latin American countries. Having used panel data analysis method for the period of 1996-2014, the research results suggest that financial integration does not alleviates the volatility of consumption in these countries. In addition, the effect of income volatility, financial development, trade openness and inflation rate also have been investigated, and that income volatility has been determined to influence consumption volatility almost proportionately. On the other hand, trade openness indicator representing macroeconomic reforms has a decreasing effect on volatility while inflation rate affects volatility positively consistent with the theoretical expectations. The most striking result is the disappearance of adverse effect of financial integration on consumption volatility once interaction terms of financial development and institutional development with financial integration enter negatively and significantly in the equations. This result reveals the fact that in order to benefit from financial integration, institutional and financial development are inevitably required.