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Currency Crises, Capital Account Liberalization, and Selection Bias

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  • Glick, Reuven
  • Guo, Xueyan
  • Hutchison, Michael M.

Abstract

Are countries with unregulated capital flows more vulnerable to currency crises? Efforts to answer this question properly must control for “self selection†bias since countries with liberalized capital accounts may also have more sound economic policies and institutions that make them less likely to experience crises. We employ a matching and propensity score methodology to address this issue in a panel analysis of developing countries. Our results suggest that, after controlling for sample selection bias, countries with liberalized capital accounts experience a lower likelihood of currency crises. That is, when two countries have the same likelihood of allowing free movement of capital (based on historical evidence and a very similar set of economic and political characteristics)—and one country imposes controls and the other does not-- the country without controls has a lower likelihood of experiencing a currency crisis. This result is at odds with the conventional wisdom and suggests that the benefits of capital market liberalization for external stability are substantial.

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Bibliographic Info

Paper provided by Center for International Economics, UC Santa Cruz in its series Santa Cruz Center for International Economics, Working Paper Series with number qt12t6x2ht.

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Date of creation: 01 Jun 2004
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Handle: RePEc:cdl:scciec:qt12t6x2ht

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  1. Leonardo Bartolini & Allan Drazen, 1997. "Capital Account Liberalization as a Signal," NBER Working Papers 5725, National Bureau of Economic Research, Inc.
  2. Guillermo A. Calvo & Carmen M. Reinhart, 2002. "Fear Of Floating," The Quarterly Journal of Economics, MIT Press, vol. 117(2), pages 379-408, May.
  3. Heckman, James J & Ichimura, Hidehiko & Todd, Petra, 1998. "Matching as an Econometric Evaluation Estimator," Review of Economic Studies, Wiley Blackwell, vol. 65(2), pages 261-94, April.
  4. Easterly, William & Levine, Ross, 1997. "Africa's Growth Tragedy: Policies and Ethnic Divisions," The Quarterly Journal of Economics, MIT Press, vol. 112(4), pages 1203-50, November.
  5. Jose De Gregorio & Sebastian Edwards & Rodrigo O. Valdes, 2000. "Controls on Capital Inflows: Do they Work?," NBER Working Papers 7645, National Bureau of Economic Research, Inc.
  6. Leonardo Bartolini & Allan Drazen, 1996. "When liberal policies reflect external shocks, what do we learn?," Staff Reports 18, Federal Reserve Bank of New York.
  7. Pierre-Olivier Gourinchas & Olivier Jeanne, 2006. "The Elusive Gains from International Financial Integration," Review of Economic Studies, Oxford University Press, vol. 73(3), pages 715-741.
  8. Kaminsky, Graciela & Lizondo, Saul & Reinhart, Carmen M., 1997. "Leading indicators of currency crises," Policy Research Working Paper Series 1852, The World Bank.
  9. Dellas, H. & Stockman, A.C., 1988. "Self-Fullfilling Expectations, Speculative Attacks And Capital Controls," RCER Working Papers 138, University of Rochester - Center for Economic Research (RCER).
  10. Hali J. Edison & Carmen M. Reinhart, 1999. "Capital controls during financial crises: the cases of Malaysia and Thailand," Proceedings, Federal Reserve Bank of San Francisco, issue Sep.
  11. Hali J. Edison & Michael W. Klein & Luca Ricci & Torsten Sloek, 2002. "Capital Account Liberalization and Economic Performance: Survey and Synthesis," NBER Working Papers 9100, National Bureau of Economic Research, Inc.
  12. Reinhart, Carmen & Kaminsky, Graciela, 1999. "The twin crises: The causes of banking and balance of payments problems," MPRA Paper 14081, University Library of Munich, Germany.
  13. Edison, Hali & Reinhart, Carmen M., 2001. "Stopping hot money," Journal of Development Economics, Elsevier, vol. 66(2), pages 533-553, December.
  14. Torsten Persson, 2001. "Currency unions and trade: how large is the treatment effect?," Economic Policy, CEPR & CES & MSH, vol. 16(33), pages 433-462, October.
  15. Jeffrey A. Frankel & Andrew K. Rose, 1996. "Currency crashes in emerging markets: an empirical treatment," International Finance Discussion Papers 534, Board of Governors of the Federal Reserve System (U.S.).
  16. Vittorio Grilli & Gian Maria Milesi-Ferretti, 1995. "Economic Effects and Structural Determinants of Capital Controls," IMF Staff Papers, Palgrave Macmillan, vol. 42(3), pages 517-551, September.
  17. Stephen Knack & Philip Keefer, 1995. "Institutions And Economic Performance: Cross-Country Tests Using Alternative Institutional Measures," Economics and Politics, Wiley Blackwell, vol. 7(3), pages 207-227, November.
  18. Sebastian Edwards, 1999. "Crisis Prevention: Lessons from Mexico and East Asia," NBER Working Papers 7233, National Bureau of Economic Research, Inc.
  19. Dooley, Michael P & Isard, Peter, 1980. "Capital Controls, Political Risk, and Deviations from Interest-Rate Parity," Journal of Political Economy, University of Chicago Press, vol. 88(2), pages 370-84, April.
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