An Empirical Analysis of the Propagation Mechanism of Financial Globalization

Abstract

This paper examines the mechanism of financial globalization and the preconditions needed for its operation, from the aspect of financial development. Using data on financial globalization and financial development from 16 OECD countries during the period of 1988 to 2001, this paper also conducts an empirical analysis of the mechanism behind the propagation of financial globalization, employing the dynamic panel data analysis presented by Arellano and Bond (1991). It argues that two preconditions play a significant role in accelerating financial globalization: a ‘scale condition,’ meaning that the initial assets of institutional investors need to exceed a certain level, and an ‘\institutional condition,’ meaning that the economy should be equipped with a system in which the accumulated capital can be operated efficiently. When we conduct empirical analysis by dividing the 16 OECD countries into two groups - Anglo-Saxon countries and Continental European countries - the results demonstrate that the ‘scale condition’ is generally supported in terms of financial globalization in both sample groups. The ‘institutional condition,’ however, shows a slight difference between the Anglo-Saxon countries with their market-based financial systems and the Continental European European countries with their bank-based ones. In order to utilize the advantages of financial globalization positively, it is concluded that Korea, with its bank-based financial system, should devise a scheme to achieve more efficient fund operation and risk management by developing its capital market. At the same time, to make Korea an attractive financial hub in quantitative terms, boosting the sophistication of its capital markets, such as its pension funds and bond markets, is seen to be important.