Bank Fragility and International Capital Mobility

IMF Working Papers, August 1, 1999

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Bank Fragility and International Capital Mobility

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Bibliographic details

• Authors: Enrica Detragiache
• Published: August 1, 1999
• Series: IMF Working Papers
• DOI: https://doi.org/10.5089/9781451853681.001

Summary

• The paper examines the effects of increased financial integration on the economy and, specifically, the welfare of depositors and the business sector.
• A simple model of a small open economy with a fragile banking sector and imperfect capital mobility is developed.
• Increased international integration of the market for bank deposits makes runs on banks more likely and unambiguously hurts the domestic business sector.
• Depositors may gain or lose depending on the parameters.
• Even when depositors gain, the overall effect on the economy depends on the size of foreign assets held relative to the costs of bank crises.

Main findings

• Increased international integration of the market for bank deposits:
  • makes runs on banks more likely;
  • unambiguously hurts the domestic business sector.
• Welfare outcomes for depositors are parameter-dependent:
  • depositors may gain or lose depending on the parameters of the model.
• Aggregate effect on the economy hinges on a balance:
  • depends on the size of foreign assets held relative to the costs of bank crises.

Model and mechanism (as described)

• Framework: simple model of a small open economy.
• Key features:
  • fragile banking sector;
  • imperfect capital mobility;
  • international integration of the market for bank deposits as a policy/structural change.
• Mechanism highlighted:
  • greater integration increases vulnerability to bank runs, which transmits losses to the domestic business sector and affects depositor welfare depending on model parameters and the stock of foreign assets.

Policy-relevant implications (implied by analysis)

• Financial integration can create trade-offs:
  • it may improve opportunities for depositors in some parameter configurations but increases the likelihood of destabilizing bank runs;
  • it imposes unambiguous costs on the domestic business sector through higher run risk.
• Assessment of integration should consider:
  • the size of foreign assets held relative to potential costs of bank crises when evaluating net effects on the economy.

Content in this bundle

• Bank Fragility and International Capital Mobility - WP/99/113
  • Bank Fragility and International Capital Mobility - WP/99/113 (Markdown version)
  • Bank Fragility and International Capital Mobility - WP/99/113 (PDF)