How Big are the Gains from Financial Integration?

with Indrit Hoxha and Sebnem Kalemli-Ozcan

The literature has shown that the implied welfare gains from international financial integration are very small. We revisit the existing findings and document that welfare gains can be substantial if the costs of staying in autarky are worse than the standard neo-classical model would suggest. By estimating the implied autarky path of rates of return from the data and calibrating the welfare gains based on this path, we find that the benefits are nearly 4.3 times larger than the previous estimates. This implies that gains are equivalent to a permanent 7.47\% gain in consumption for the average country, and up to 13\% for the most capital-scarce countries. We explore the robustness of these estimates under different assumptions regarding world rates of return, the speed of financial integration, and measurement issues, finding that the welfare gains of integration remain significantly large.

Dietrich Vollrath,
Jun 25, 2010, 1:25 PM