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H. Kent Baker and Leigh A. Riddick

Print publication date: 2012

Print ISBN-13: 9780199754656

Published to Oxford Scholarship Online: May 2013

DOI: 10.1093/acprof:oso/9780199754656.001.0001

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International Financial Integration: Benefits, Costs, and Policy Challenges

International Financial Integration: Benefits, Costs, and Policy Challenges

(p.110) 6 International Financial Integration: Benefits, Costs, and Policy Challenges
International Finance


Oxford University Press

This chapter reviews the recent analytical and empirical literature on the benefits and costs of international financial integration and the policy challenges that it creates. The chapter also discusses the impact of financial openness and capital flows on consumption, investment, and growth, as well as the impact of foreign bank entry on the domestic financial system. The argument is made that, for small open developing countries, the benefits of financial integration are mostly long term in nature, whereas risks can be significant in the short run. Careful preparation and management—notably by strengthening bank regulation and supervision and by adopting a more flexible monetary policy framework, possibly supplemented by countercyclical regulatory rules and temporary controls on short-term capital flows—are therefore essential. Cross-border regulation of systemically important financial institutions is also required to mitigate the impact of destabilizing capital flows, but care is needed in imposing micro-based prudential rules to avoid unintended general equilibrium consequences.

Keywords:   financial integration, capital flows, contagion, capital controls

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