The Impact of Derivatives Markets on Financial Integration, Risk, and Economic Growth

Abstract:     
During the last decade, derivatives markets became an asset class of their own and influenced the financial landscape strongly. While the financial sector contributes positively to overall growth in many studies up the mid nineties, a positive contribution of the financial sector to economic growth in mature market economies is less evident with more recent data. What has happened? Is the rapid growth of derivative markets a catalyst for changes in the financial sector? Are derivative influences capable of destabilizing the financial system? Drawing on the Merton and Bodie (1995) functional perspective, this paper tries to explain this change by discussing the sphere of derivative impact (1) by delineating the volume, the efficiency and the risk channel, (2) by providing descriptive and comparative data, (3) by tying in the catalytic role of derivatives in the 2007/2008 financial crisis, and (4) by empirically testing whether derivatives are capable of influencing the finance-growth-nexus. The clarification of this question shall contribute to a better understanding of financial markets.

Number of Pages in PDF File: 60

Keywords: derivatives, financial integration, financial crisis, finance-growth-nexus

JEL Classification: C 22, E 44, F36, G15, G29, N20

working papers series