Islamaj, ErgysKose, M. Ayhan2016-05-042016-05-042016-04https://hdl.handle.net/10986/24234This paper studies how the sensitivity of consumption to income has changed over time as the degree of financial integration has risen. In standard theory, greater financial integration facilitates international borrowing and lending, helping to reduce the sensitivity of consumption growth to fluctuations in income. The paper examines the empirical validity of this prediction using an array of indicators of financial integration for a large sample of advanced and developing countries over the period 1960-2011. Two main results are reported. First, the sensitivity of consumption to income has declined over time as the degree of financial integration has risen. The decline has been more pronounced in advanced economies than in developing ones. Second, the regression analysis indicates that a higher degree of financial integration is associated with a lower sensitivity of consumption to income. This finding is robust to the use of a wide range of empirical specifications, country-specific characteristics, and other controls, such as interest rates and outcome-based measures of financial integration. The paper also discusses other potential sources of the temporal changes in the sensitivity of consumption to income.en-USCC BY 3.0 IGOPER CAPITA CONSUMPTIONNATIONAL OUTPUTGROWTH RATESMONETARY POLICYCLOSED ECONOMIESDEPOSITSLAGSINTERNATIONAL CAPITALMONETARY ECONOMICSDISPOSABLE INCOMEINCOMEINTERESTRATE OF RETURNINTEREST RATEEXCHANGESTOCK MARKETDISCOUNT RATEECONOMIC REVIEWLIQUIDITYDEVELOPING COUNTRIESEQUITY MARKETEXPORTSELASTICITYNEGATIVE LINKPOLITICAL ECONOMYDEVELOPING ECONOMIESPORTFOLIOINTERNATIONAL BUSINESSINTERNATIONAL EQUITYOPTIMIZATIONCROSS-COUNTRY CORRELATIONINCENTIVESPOLICY DISCUSSIONSVARIABLESPRICEREAL INCOMEFINANCIAL INTEGRATIONCONSUMPTION GROWTHPAYMENTSWEALTHSAVINGAGGREGATE INCOMEEMPIRICAL LITERATUREDEVELOPING COUNTRYEMPIRICAL ANALYSISDEVELOPMENTADVANCED COUNTRIESFOREIGN TRADETOTAL FACTOR PRODUCTIVITYSAVINGSGLOBAL ECONOMYDEVELOPMENT ECONOMICSNEGATIVE IMPACTADVANCED ECONOMIESEXCHANGE RATESLIQUIDITY CONSTRAINTSPRODUCTIVITYECONOMETRICSINTEREST RATESINTEREST RATE SHOCKSGLOBALIZATIONDEBTMEASUREMENT ERRORFOREIGN ASSETSOPEN ECONOMYBUSINESS CYCLEPRODUCTREAL INTEREST RATERISK SHARINGUTILITYCROSS-COUNTRY INCOMEFINANCIAL SYSTEMSERIAL CORRELATIONLIBERALIZATIONECONOMIC RESEARCHEQUITYDATA AVAILABILITYCONSUMPTIONBOND MARKETSCAPITAL CONTROLSCREDIT CONSTRAINTSCAPITALMARKET INTERESTVOLATILITYCOUNTRY RISKRAPID INCREASEFUTUREDEPENDENT VARIABLEINCOME SHOCKSFOREIGN DIRECT INVESTMENTCREDITMACROECONOMICSPOLITICAL SCIENCEPERMANENT INCOMEUTILITY FUNCTIONDYNAMIC PANELAGGREGATE DEMANDREAL RATEECONOMYPOSITIVE CORRELATIONAGGREGATE OUTPUTMEASUREMENTSHARESASSETSREAL EXCHANGE RATEBENCHMARKTRADE LIBERALIZATIONHIGH CORRELATIONMONETARY POLICIESEQUAL WEIGHTSINTERNATIONAL PORTFOLIOOUTPUTCLOSED ECONOMYREGRESSION ANALYSISINSURANCEBUSINESS CYCLESPERMANENT INCOME HYPOTHESISTRADEFUTURE STUDIESGDPTHEORYFINANCIAL DEVELOPMENTEQUITY MARKETSINVESTMENTBONDRANDOM WALKSHAREBANKINGPRIVATE CONSUMPTIONDYNAMIC PANEL FRAMEWORKCAPITAL ACCOUNTSPOLICY RESEARCHEXCHANGE RATERISK AVERSIONLIABILITIESOPEN ECONOMIESMACROECONOMIC PERFORMANCECAPITAL ACCOUNTDEVELOPMENT POLICYFUTURE RESEARCHWorking PaperWorld Bank10.1596/1813-9450-7659