EQUILIBRIUM INTEREST-RATES AND FINANCIAL LIBERALIZATION IN DEVELOPING-COUNTRIES

It is a central argument of the financial repression literature that i nterest rates should be determined by the market to reflect the true c ost of capital. This article suggests that the notion of an 'equilibri um interest rate' may be undefined since the rate required to balance financial markets differs from that required to equilibrate savings an d investment. Thus liberalisation introduces an intrinsic instability into the financial system as a result of portfolio adjustment. The art icle examines the Chilean and Korean experiences and concludes that a sustainable reform requires positive but low real interest rates and b road regulation of the financial system to ensure macroeconomic stabil ity.