Revisiting the Link Between Finance and Macroeconomic Volatility

January 30, 2013

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Era Dabla-Norris, and Narapong Srivisal. Revisiting the Link Between Finance and Macroeconomic Volatility, (USA: International Monetary Fund, 2013) accessed November 12, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

This paper examines the impact of financial depth on macroeconomic volatility using a dynamic panel analysis for 110 advanced and developing countries. We find that financial depth plays a significant role in dampening the volatility of output, consumption, and investment growth, but only up to a certain point. At very high levels, such as those observed in many advanced economies, financial depth amplifies consumption and investment volatility. We also find strong evidence that deeper financial systems serve as shock absorbers, mitigating the negative effects of real external shocks on macroeconomic volatility. This smoothing effect is particularly pronounced for consumption volatility in environments of high exposure - when trade and financial openness are high - suggesting significant gains from further financial deepening in developing countries.

Subject: Consumption, Credit, Financial markets, Financial sector development, International trade, Money, National accounts, Private consumption, Terms of trade

Keywords: Consumption, Consumption decision, Consumption volatility, Credit, External shock, Financial Depth, Financial sector development, GDP, Global, Investment volatility, Macroeconomic Volatility, Per-capita GDP, Private consumption, Standard deviation, Terms of trade, Volatility regression, WP, Yes

Publication Details

Pages:

36
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2013/029
Stock No:

WPIEA2013029
ISBN:

9781475543988
ISSN:

1018-5941

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