Interdependence of Global Stock Markets in the Era of Financial Globalization-A Statistical Analysis of International Market Integration

Financial Globalization, Stock Market Interdependence, Cointegration, Vector Auto-regression ( VAR ) Financial Integration, Global Financial Markets, International Portfolio Diversification, Financial Contagion, Capital Market Integration, Impulse Response Analysis

Globalization with regards to finance has really enhanced the level of integration and interconnection between the stock markets globally. As information technology continues to grow fast, the world has become increasingly interconnected with a liberalized financial system and with cross-border capital flows. Multinational corporations, institutional investors (global-based) and international financial institutions are very active in various markets thereby enabling the improvement of the conveyance of information, capital and economic shocks via national boundaries. As a result, a crisis that started in a single financial market is easily transferred to other markets and influences the prices of assets, investment activity and financial integrity. This inability to distinguish the stock markets has led to an increasing convergence across stock markets hence the appeal that cross-boundary or international financial markets seems to hold over researchers and consumers of financial economics and international finance. This paper explores interdependence of key stock markets in the world today in the era of finance globalization. The study aims at indicating benchmark indexes of stock markets of developed economies as well as developing ones such as the one of the US, UK, Japan, Germany, India and China. The markets are important in determining the world financial trends and can represent the overall dynamics of the international capital markets. The aim of the study is to trace the degree to which these markets are interrelated and to determine what is the character of short run and long-term links among them. In order to meet these objectives, a number of sophisticated statistical and econometric tools are taken as part of the study. The level of association between stock market returns is measured through the correlation analysis whereas the property of stationarity of the time series data are measured through the unit root tests. The analysis of the relationship between long-run equilibrium of the selected markets is done by use of cointegration. Also, Vector Autoregressive (VAR) models are considered to capture dynamic interactions between the markets and impulse response functions are also applied to determine the effect of market shocks in another market in the long-run. The empirical results indicate that there is a high degree of interdependence between the chosen stock markets in the world especially during financial turbulence and economic crisis of the world. It is also reflected in the findings that there are long-run relationship links among some markets, meaning that there exists increased levels of financial integration in the world economy. The implications of these findings on international investors, policymakers, and financial institutions are significant because they suggest that financial contagion can occur in the near future and that diversifying a portfolio faces difficulties in an ever-better global financial framework.