OECD Economic Policy Papers

The OECD Economic Policy Papers series is designed to make available selected studies on structural and macro-economic policy issues of current interest. The Papers are produced in the context of the work carried out on the two regular OECD titles, OECD Economic Outlook and Going for Growth.


International Capital Mobility

Which Structural Policies Reduce Financial Fragility?

The structure of a country’s external liabilities, as well as the extent and nature of its international financial integration are key determinants of its vulnerability to financial crises. This is confirmed by new empirical analysis covering OECD and emerging economies over the past four decades. For example, a bias in gross external liabilities towards debt has raised crisis risk. The same holds for "currency mismatch" which refers to a situation where a country's foreign-currency denominated liabilities are large compared to its foreign-currency denominated assets. In addition, international banking integration has been a major vector of contagion, and even more so when cross-border bank lending was primarily short-term. Vulnerability to contagion has been lower when global liquidity has been abundant, underlining the importance of major central banks ensuring ample international liquidity at times of financial turmoil. Structural policies can increase financial stability, typically through their effects on the composition of the external financial account or on the vulnerability to contagion-induced financial shocks. Lower barriers on foreign direct investment and lower product market regulations have increased financial stability by shifting external liabilities from debt towards FDI. In contrast, tax systems that favour debt finance over equity finance have undermined stability by increasing the share of debt, including external debt, in corporate financing. Targeted capital controls on inflows from credit operations have reduced the impact of financial contagion, not least by shifting the structure of external liabilities. Stricter information disclosure rules or capital requirements, and strong supervisory authorities have also reduced countries' financial crisis risk.


Keywords: financial stability, bank regulation, asset mismatch, structural adjustment, capital controls, structural policy, bank balance sheet, financial integration, debt, financial account, contagion, banking crises
JEL: F36: International Economics / International Finance / Financial Aspects of Economic Integration; G01: Financial Economics / General / Financial Crises; G32: Financial Economics / Corporate Finance and Governance / Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill; G18: Financial Economics / General Financial Markets / General Financial Markets: Government Policy and Regulation; F34: International Economics / International Finance / International Lending and Debt Problems; E44: Macroeconomics and Monetary Economics / Money and Interest Rates / Financial Markets and the Macroeconomy
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