Correlation, Contagion, and Asian Evidence

This paper examines the empirical literature on financial market contagion in Asia during the 1997-98 financial crises with respect to existing tests of contagion. Empirical evidence shows that contagion affects both developed and emerging markets and does not seem to vary with the relative fundamental economic health or trade and financial linkages of the Asian economies. Contagion occurs across both asset types and geographical borders and tends to have larger effects in equity markets than in currency and bond markets. There is evidence to support the hypothesis that contagion is regional and transmitted through developed markets. A discussion of the behavior of correlation coefficients in the presence of contagion and financial crises suggests that they are not a reliable metric for detecting contagion. (c) 2006 The Earth Institute at Columbia University and the Massachusetts Institute of Technology.