Measuring Regional Market Integration in Developing Asia: a Dynamic Factor Error Correction Model (DF-ECM) Approach

Publication | May 2007

This paper aims to measure and address the dynamic process of economic integration in Asia. It proposes an approach by merging the method of dynamic factor analysis (DFA) with the practically convenient error-correction model (ECM).

This paper examines empirically the dynamic process of regional market integration in 12 Asian economies using a new modeling approach combining DF with ECM. This approach enables us to obtain latent regional dynamic factors which correspond well with the "foreign" parity variables in theory when a market is imperfectly integrated and which act, in explaining domestic short-run price adjustments, as leading-indicators in an error correction form. The power of the DF-ECM approach is illustrated in its application to measuring market integration in the developing Asian region using monthly data from the past decade.

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Subjects
  • Economics
  • Finance sector development
  • Regional cooperation and integration

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