Financial Globalisation and Crisis Occurrence: Does Threshold Effect of Financial Development Matter?

Abstract

This paper studies the relationship between financial globalisation and occurrence of crises according to the level of financial development condition. We demonstrate that economies with high level of financial sector development benefit more from financial integration than those with a lower one. More specifically, we will investigate the issues relevant to threshold effect of financial development on which capital flows changes effects sign on probability of crisis occurrence. We investigate the role of financial development in the relationship between capital flows and crisis occurrence probability for different groups of countries. Estimations are conducted with a panel data of 70 countries over the period 1984-2009 using fixed effects logit panel estimation. Empirical results support that capital movements can create bubble economy according to the level of domestic financial development. This implies that countries which are at an intermediate phase of financial development are the most vulnerable to crisis.
Keywords: Financial development, Financial globalization, Financial crisis.