Financial Globalization, Financial Crises, and the External Portfolio Structure of Emerging Markets

48 Pages Posted: 24 May 2013 Last revised: 13 Aug 2022

See all articles by Enrique G. Mendoza

Enrique G. Mendoza

National Bureau of Economic Research (NBER); University of Pennsylvania

Katherine A. Smith

U.S. Naval Academy

Multiple version iconThere are 2 versions of this paper

Date Written: May 2013

Abstract

We study the short- and long-run effects of financial integration in emerging economies using a two-sector model with a collateral constraint on external debt and trading costs incurred by foreign investors. The probability of a financial crisis displays overshooting: It rises sharply initially and then falls sharply but remains positive in the long run. While equity holdings fall permanently, bond holdings initially fall but rise after the crisis probability peaks. Conversely, asset returns and asset prices first rise and then fall. These results are in line with the post-globalization dynamics observed in emerging markets, and the higher frequency of crises they displayed. Without financial frictions, the model yields a negligible fall in equity and a large increase in debt. The results also depend critically on supply-side effects of financial frictions affecting the price of nontradables and dividends from nontradables producers, and on strong precautionary savings incentives induced by the risk of financial crises.

Suggested Citation

Mendoza, Enrique G. and Smith, Katherine A., Financial Globalization, Financial Crises, and the External Portfolio Structure of Emerging Markets (May 2013). NBER Working Paper No. w19072, Available at SSRN: https://ssrn.com/abstract=2269525

Enrique G. Mendoza (Contact Author)

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
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University of Pennsylvania ( email )

Philadelphia, PA 19104
United States

HOME PAGE: http://www.sas.upenn.edu/~egme/index.html

Katherine A. Smith

U.S. Naval Academy ( email )

121 Blake Road
Annapolis, MD 21402-5000
United States

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