International stock market interdependence: Are developing markets the same as developed markets?

• We use various market linkages to explain the correlations of 40 stock markets.
• The importance of the market linkages differs across markets at different levels of development.
• The joint EMU participation has positive impact on stock market correlations in 1996–2002.
• The EMU effect increases after the inauguration of the EMU but not after the monetary transition.

This paper uses a dynamic panel-data gravity model to explain the correlations between 40 markets from 1996 to 2010 using four types of market linkages: information capacity, financial integration, economic integration, and similarity in industrial structure. The mechanism of interdependence of developed markets and that of developing markets are heterogeneous: (1) information capacity and industrial structure similarity have significant impact on the correlations of a developed market with other markets; (2) economic integration drives the correlations of a developing market with other markets; (3) financial integration is important for interdependence among developed markets and that among developing markets, but not for that between developed and developing markets. The EMU has a significant positive impact on stock market integration from 1996 to 2002. This impact increases after the inauguration of the EMU in 1999 but does not increase further after the monetary transition being accomplished in 2002.