Currency Crisis and Stock Market Integration: A Comparison of East Asian and European Experiences

Abstract

Using cointegration and variance decomposition analyses, this paper investigates the impact of the 1997 Asian currency crisis on stock market integration in East Asia, and compares this experience with Europe"s experience after the ERM crisis. This paper finds that in the long and short run, East Asian stock markets became increasingly integrated with the US market after the currency crisis, confirming a popular view that the Asian crisis brought about US dominance over Asian stock markets. Long and short run relations between Asian and US markets on one hand, and between Asian markets themselves on the other hand emerged in the post-crisis period. This phenomenon, however, is limited only to Asian stock markets. In Europe, the currency crisis ended up eliminating the pre-existing long and short relation, even though it led to a temporary increase in stock market linkages during the currency crisis period. In particular, the integration of European markets with the US market turned out to be insufficient all throughout currency crisis. These contrasting behaviors of Asian and European stock markets after the currency crisis seem to result from their different experiences regarding capital liberalization, particularly foreign equity investment liberalization.