World financial liberalization and its effects on capital flows

Abstract

This paper investigates the determining factors in private capital flow, differentiating foreign direct investment (FDI) from other flows and emphasizing the role of financial liberalization and. Two reasons brought about this examination. The first is the substantial increase in private capital flow mainly in the 90s, not only in developed countries but also in developing ones. The second is a greater liberalization process in these economies. This article builds financial liberalization indicators based on political rules. The capital account liberalization is introduced as an explanatory variable in the model that investigates the determinants behind the capital flows. The resulting estimates confirm the econometric results suggested by some of the literature on the subject: the size of the market and the rate of inflation are important variables to explain the private capital flows, just like the infrastructure is relevant when it comes to developing nations. The positive influence of capital account liberalization on capital flows, which comes up in robust estimates, contrasts with the results included in the recent literature on this issue. The new findings are attributable to the differentiation between the types of capital flows, to the use of a proper liberalization indicator and to the econometric method appliedLiberalization, Capital flows, FDI, determinants of capital flows