This paper deals with three highly controversial aspects in the international finance literature: the degree of international financial integration, the economic impact of capital mobility, and the potential role of capital controls in the emerging international financial architecture.
Regarding the first aspect, many observers have been influenced by the recent hype about “globalisation” and in fact take it for granted that capital markets have become almost fully integrated into a world financial marketplace. This paper, reviews evidence that challenges this conventional wisdom, though confirming that the degree of international financial integration is rising.
With respect to the second aspect, it is demonstrated that there are circumstances under which the free flow of international capital could negatively impact upon economic performance and/or otherwise welfare-enhancing domestic policies. This finding conflicts with traditional theory and provides an economic rationale for the judicious introduction of capital controls.
With this assertion in mind, the final aspect, the role of capital controls, is investigated. The specific question explored is how far restrictions on international capital flows are able to avert a costly economic imbalance arising from fluctuations in the balance of payments. Although the international consensus seems to have shifted in recent years towards promoting Chilean-style capital controls as a potential new building block in the international financial landscape, this paper cautions against such a generalisation of the Chilean experience. Rather, a review of the empirical literature suggests that much of Chile‘s economic success story in the last decade can be explained by factors other than its control regime.
The rising degree of international financial integration enhances the need for small countries to resolve their dilemma of being dependent on external funding and, at the same time, most vulnerable to sudden reversals of international capital flows. Yet, simple solutions of how to counterbalance the potential threats of capital mobility in a second-best equilibrium, are not found to be easily forthcoming. In particular, this paper argues that capital controls are no panacea – even less so, if they delay necessary macro- and microeconomic reforms.
Table of Contents
1. INTRODUCTION AND OVERVIEW
2. THE DEGREE OF INTERNATIONAL FINANCIAL INTEGRATION
2.1. SAVING-INVESTMENT CORRELATIONS
2.1.1. Non-Fundamental Causes
2.1.2. Fundamental Causes
2.1.3. Summary
2.2. ARBITRAGE TESTS
2.2.1. Concepts of Interest Parity
2.2.2. Measurement
2.2.3. Empirical Evidence
2.2.4. Summary
2.3. PORTFOLIO TESTS
2.3.1. Mean-Variance Analysis
2.3.2. The International Capital Asset Pricing Model
2.3.3. Alternative Measures Based on Portfolio Theory
2.3.4. Empirical Evidence
2.3.5. The Home Bias Revisited
2.3.6. Summary
2.4. DEGREE OF MONETARY AUTONOMY
2.4.1. Basic Outline
2.4.2. Measurement
2.4.3. Empirical Evidence
2.5. SUMMARY AND CONCLUSIONS
3. THE ECONOMIC IMPACT OF CAPITAL MOBILITY
3.1. BENEFITS FROM CAPITAL MARKET INTEGRATION
3.1.1. The Traditional View
3.1.2. Endogenous Growth
3.1.3. International Risk Sharing
3.1.4. Summary
3.2. RISKS OF CAPITAL MARKET INTEGRATION
3.2.1. Market Failure
3.2.2. Monetary and Fiscal Policy
3.2.3. Balance of Payments Crises
3.3. SUMMARY
4. CAPITAL CONTROLS: THEORY AND EVIDENCE
4.1. CAPITAL CONTROLS IN MODERN ECONOMIC HISTORY
4.2. TYPES AND MOTIVATIONS OF CAPITAL CONTROLS
4.3. THE EFFECTS OF CAPITAL CONTROLS IN THEORY
4.3.1. The Traditional View
4.3.2. Changing the Volume and Composition of Capital Flows
4.3.3. Reducing Exchange Rate Volatility
4.3.4. Fending off a Speculative Attack
4.4. MEASURING THE EFFECTIVENESS OF CAPITAL CONTROLS
4.5. EMPIRICAL EVIDENCE
4.5.1. Inflow versus Outflow Controls: Some Stylised Facts
4.5.2. Controls on Capital Outflows
4.5.3. Controls on Capital Inflows
4.6. CONCLUSIONS
5. SUMMARY AND POLICY IMPLICATIONS
6. APPENDIX
6.1. PURCHASING POWER PARITY
6.1.1. The Law of One Price
6.1.2. Absolute Purchasing Power Parity
6.1.3. Relative Purchasing Power Parity
6.2. CONCEPTS OF THE REAL EXCHANGE RATE
6.3. EXCHANGE RATE EXPECTATIONS
6.3.1. The Survey-Based Approach
6.3.2. The Rational Expectations Approach
6.4. ENDOGENEITY OF REGRESSORS AND COINTEGRATION
Objectives & Core Themes
This paper examines the impact of international capital mobility on the global financial system and evaluates the arguments for and against capital controls, specifically focusing on how capital mobility affects policy autonomy, economic welfare, and financial stability. The research seeks to determine whether restrictions on capital flows can effectively mitigate financial crises or if they impose unnecessary costs by distorting the efficient allocation of resources.
- The degree of international financial integration and the validity of common empirical measures.
- Theoretical and empirical benefits of capital market integration, including growth and risk sharing.
- Risks associated with capital mobility, such as market failures and balance of payments crises.
- Evaluation of capital controls as policy instruments, with a focus on the Chilean experience.
- Challenges in the global financial architecture and the potential for multilateral policy coordination.
Excerpt from the Book
The Degree of International Financial Integration
Several dramatic incidents in recent years, where spill-over effects of originally localised financial tremors were felt even in very remote countries, have consolidated the conventional wisdom that financial markets are more integrated today compared to any previous period in history. The empirical evidence, however, is not as clear-cut.
The following chapter overviews ways that have been traditionally advanced to examine the hypothesis that international capital markets behave as one. While discussing some related empirical evidence it is further attempted to explain why researchers have drawn very different conclusions about the actual degree of international financial integration, despite looking at the same data sets.
Prior to this, some definitional remarks are warranted to avoid the semantic confusion often caused by the difficulty of conceptually separating financial integration from notions of financial market openness, international financial markets efficiency, and international capital mobility. In this paper, complete international financial integration is defined by two conditions: (1) capital markets allocate efficiently; (2) capital is perfectly mobile, which is viewed to depend on the presence of explicit and implicit barriers to international capital flows (that is the degree of financial market openness).
Summary of Chapters
1. INTRODUCTION AND OVERVIEW: This chapter provides an introduction to the debate surrounding international capital markets, outlining the conflicting policy views that arose in the wake of emerging market financial crises.
2. THE DEGREE OF INTERNATIONAL FINANCIAL INTEGRATION: This chapter analyzes various methods used to measure financial integration, noting that empirical evidence remains ambiguous and often contradicts the conventional wisdom of high integration.
3. THE ECONOMIC IMPACT OF CAPITAL MOBILITY: This chapter discusses the theoretical benefits of capital mobility, such as enhanced investment efficiency, while balancing these against significant risks like market failures and balance of payments crises.
4. CAPITAL CONTROLS: THEORY AND EVIDENCE: This chapter evaluates the effectiveness of capital controls, using the Chilean experience as a case study to examine whether such measures can successfully stabilize an economy or improve policy autonomy.
5. SUMMARY AND POLICY IMPLICATIONS: This chapter synthesizes the main findings from previous sections and draws general conclusions regarding the conduct of economic policy in an increasingly integrated global financial system.
6. APPENDIX: The appendix provides technical details on purchasing power parity, real exchange rate concepts, and expectations models used throughout the paper.
Keywords
Capital mobility, financial integration, capital controls, saving-investment correlations, interest parity, portfolio theory, balance of payments crises, speculative attacks, financial stability, monetary autonomy, exchange rate volatility, emerging markets, market failure, economic policy, Chile.
Frequently Asked Questions
What is the primary focus of this thesis?
The thesis explores the economic impact of international capital mobility and analyzes whether capital controls are an effective policy tool for protecting economies from financial instability and currency crises.
What are the central thematic areas?
Key areas include the measurement of financial integration, the theoretical benefits and risks of capital mobility, the design of capital control regimes, and the empirical effectiveness of these controls in developing countries.
What is the central research objective?
The objective is to critically assess whether the alleged benefits of free capital mobility—such as efficient resource allocation—are outweighed by the risks of financial volatility, and to determine the policy implications for emerging economies.
Which scientific methods does the author employ?
The paper uses a comprehensive literature review, analysis of econometric models (e.g., Feldstein-Horioka, Mundell-Fleming, ICAPM), and an examination of historical data, specifically focusing on the Chilean capital control experience.
What is covered in the main section of the document?
The main section investigates the theoretical and empirical evidence concerning financial integration, the risks associated with capital account liberalization, and the effectiveness of capital controls, particularly their role during crises.
What defines the core research keywords?
The keywords highlight the intersection of macroeconomics, international finance, and policy regulation, centering on the themes of capital mobility, market integration, and crisis management.
What is the "Feldstein-Horioka paradox" discussed in the paper?
It refers to the finding that domestic savings and investment are highly correlated across countries, which contradicts the theoretical expectation that capital should move freely to where it earns the highest return under conditions of perfect capital mobility.
How does the author evaluate the "Chilean experience" with capital controls?
The author argues that while Chile was relatively successful in managing capital flows, its success likely stems more from strong prudential banking regulations and a stable economic environment than from the capital control regime (encaje) itself.
- Citation du texte
- Nina Gillmann (Auteur), 2000, International Capital Flows: Economic Impact and Policy Implications, Munich, GRIN Verlag, https://www.grin.com/document/185471
