Transparency Matters

• Author: Luis Brandão-Marques, Gaston Gelos, and Natalia Melgar
• Position: a Senior Economist in the IMF's Monetary and Capital Markets Department, is a Division Chief in the IMF's Monetary and Capital Markets Department, and Natalia Melgar is an Economist in the IMF's Resident Representative Office in Uruguay.

Over the past 20 years, emerging market economies have become increasingly integrated into world financial markets. For example, U.S. portfolio holdings of long-term securities (equities and long-term bonds) issued by entities from 27 key emerging market economies roughly tripled as a share of each country’s GDP between 1994 and 2012 (see Table 1).

This increase in financial integration has brought emerging market economies tremendous benefits. It has reduced their cost of capital (which has expanded investment opportunities), improved risk sharing and portfolio diversification, sped up the transfer of technology, and contributed to the spread of best practices in investor protection and governance.

But deepening financial integration has come at a price for many of these economies: it has increased their vulnerability to the ups and downs of international financial markets. However, that increased vulnerability varies significantly—it is higher for some countries, lower for others. To devise policies to reduce the volatility that can accompany increased global integration, governments must understand how country characteristics shape the way global financial markets affect emerging market economies.

To that end, we examined the role that country transparency plays in the amplification of financial shocks emanating from global financial centers. We found that the more transparent economies—those that provide more data and in a more timely fashion and have better corporate disclosure standards, more predictable policies, and better governance—react less sharply to both improvements and deteriorations in global market conditions than do the more opaque emerging market economies that score worse on various dimensions

of transparency.

Country transparency and capital flows

Many individual country factors influence the speed and intensity with which financial shocks propagate across economies. Financial linkages, such as common exposures by banks and mutual funds, play an important role in the transmission of common shocks and in financial contagion. It is also known that financial integration, the result of lower barriers to cross-border financial flows, generally facilitates the international propagation of financial shocks (Bekaert and others, 2011).

Less clear, however, is the role played by country-level transparency—that is, the availability of information that allows investors to properly assess risks and returns associated with investing...