[Show abstract][Hide abstract] ABSTRACT: This paper examines the volatility of capital flows following the liberalization of financial markets. Utilizing a panel data set of overlapping data, the paper focuses on the response of foreign direct investment, portfolio flows, and other debt flows to financial liberalization. The financial liberalization variable comes from the chronology and index developed by Kaminsky and Schmukler [Kaminsky, G.L. and Schmukler, S.L., 2003, Short-run pain, long-run gain: The effects of financial liberalization, IMF Working Paper WP/03/34.]. Different types of capital flows are found to respond differently to financial liberalization. Surprisingly, portfolio flows appear to show little response to capital liberalization while foreign direct investment flows show significant increases in volatility, particularly for the emerging markets considered.
International Review of Economics & Finance. 01/2009;
[Show abstract][Hide abstract] ABSTRACT: Utilizing a panel data set for 13 developed economies, this paper examines the volatility of capital flows following the liberalization of financial markets. The paper focuses on the response of foreign direct investment, portfolio flows, and other debt flows to both financial liberalization and increased capital flows. The regression analysis examines how capital volatility is affected by the interaction between de jure financial liberalization (an index of liberalization) and de facto liberalization (the volume of capital flows). At average and high volumes of capital, financial liberalization is found to increase capital volatility as expected. At lower volumes of capital, financial liberalization reduces capital volatility, particularly for foreign direct investment and other flows, indicating there may be a threshold level of capital flows below which financial liberalization reduces volatility.