Financial market integration of emerging markets: Heavy tails, structural shifts, nonlinearity, and asymmetric persistence

Abstract

This study examines the financial market integration of emerging markets into international financial markets with regards to the real interest rate parity hypothesis. We focus on accounting for heavy-tailed (non-normal) distributions, structural shifts, nonlinearity, and asymmetric adjustment by utilizing recent methodological developments in unit root analysis. With data from January 2000 to May 2020 for 21 emerging markets, we find that considering heavy-tailed distributions in an asymmetric persistence framework with nonlinearity and structural shifts appears to be crucial in analyzing the financial market integrations of emerging markets. The nonlinear quantile unit root test with smooth structural breaks supports the real interest rate parity hypothesis in 18 out of 21 countries. An interesting result is that the conventional and quantile approaches are unable to support the validity of real interest parity in China. Our findings provide sound implications, which are discussed.