Channels of financial market contagion

Abstract

This study aims to fill a gap in the current literature by determining which channels of financial contagion are the most significant in transmitting crises between countries. Initial results, using χ² contingency tables, indicate that there is a significant relationship between contagion and the inflation rate and between contagion and financial liquidity. A simultaneous comparison of the channels is then performed using a series of best subset logit regressions. These suggest that a combination of high inflation and an emerging market classification form the most significant subset in increasing the probability of a contagious event.

Acknowledgements

We would like to acknowledge the University of Cape Town (UCT) for financial assistance as well as the financial assistance of the Department of Labour (DoL) towards this research. Opinions expressed, and conclusions arrived at, are those of the authors and are not necessarily to be attributed to the DoL or UCT. All remaining errors lie with the authors alone.

Notes

 Eichengreen et al. (1997) advise the use of the ratio between reserves and narrow money as per the original Girton and Roper (1977) model. However, due to data constraints, only reserves are used.

 To test for robustness, all combinations of explanatory variables were run in the best subset regression. The results confirmed those stated above. Results for these regressions can be provided upon request.