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Authors:

• Alicia GARCIA-HERRERO
  Banco Bilbao Vizcaya Argentaria

• Philip WOOLDRIDGE
  BIS

• Doo Yong YANG
  Korea Institute for International Economic Policy

This paper seeks to understand why the financial integration of Asian economies has focused on countries outside the region. We analyze empirically the geographical destination of cross-border portfolio holdings for more than 40 countries. We then compare these benchmark results with those of four subgroups: Asia, Europe, industrial and emerging countries. The lack of liquidity in Asian financial markets turns out to be very relevant in explaining why the region's capital is invested predominantly in major financial centers, notwithstanding the short distance and large trade flows within Asia. The importance of liquidity is a special characteristic of Asia when compared with developed countries or Europe, and even with emerging countries. Initiatives to foster the liquidity of Asian financial markets, therefore, would be a useful way of stimulating regional financial integration.