China’s Financial Linkages with Asia and the Global Financial Crisis

Abstract

Abstract:This paper presents empirical evidence on asset market linkages between China and Asia and how these linkages have shifted during and after the global financial crisis of [2008][2009]. We find only weak cross-country linkages in longer-term interest rates, but much stronger linkages in equity markets. This finding is consistent with the greater development and liberalization of equity markets relative to bond markets in China, as well as increasing business and trade linkages in the region. We also find that the strength of the correlation of equity prices changes between China and other Asia countries increased markedly during the crisis and has remained high in recent years. We attribute this development to greater "attentiveness" of international investors to China's role as a source and destination of equity finance during the crisis rather than to any greater financial deepening and liberalization, as China did not implement any major policy measures during this period. By contrast, the transmission of U.S. equity returns to Asian countries decreased after the crisis.

Hot Money and Quantitative Easing: The Spillover Effects of U.S. Monetary Policy on the Chinese Economy

“…Prasad and Wei () and Prasad and Ye () have extensively documented the time line of the capital control policies put in place in China. In fact, China's capital controls are noted to be “leaky” by Glick and Hutchison (). Klein and Shambaugh () found that narrowly targeted capital controls do not endow the monetary authority with policy autonomy, and “gates” only work if they function more like “walls”; that is, limited capital controls would not be effective, but pervasive capital controls would be effective in limiting asset price booms and swings.…”

Dynamic Connectedness of Asian Equity Markets

“…the global economy has translated into the greater attention to these market developments by global investors. Glick and Hutchinson (2013) show that Asian stock markets have become more correlated with the Chinese stock market since the global financial crisis than bond markets. They note that international investors are increasingly more 'attentive' to China's role as a destination of equity finance and such behaviors have translated into the greater correlation of equity price changes between China and other Asian countries.…”

Dependence Structure Between Renminbi Movements and Volatility of Foreign Exchange Rate Returns

“…Higher FX volatility will lead to possible direct losses if the exposure to these currency risks is unhedged, as it could affect a firm’s profit margins and asset values (Papaioannou 2006). Glick and Hutchison (2013, 23) highlighted that the ‘countries with greater sensitivity to RMB are with stronger linkages to China’s bond market’. The need to hedge against the exposure to currency risk is therefore higher for countries that have stronger financial linkages to China.…”