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Does Capital Account Liberalization Discipline Budget Deficit?

  • Woochan Kim

The paper investigates whether free capital mobility leads a government to tighten its budget deficit for fear of being penalized from the international capital market. The author tests the hypothesis using three-stage least squares (3SLS), which can control for the endogenous nature of capital account liberalization. Even the conservative measure shows that, if capital account liberalization were exogenously imposed, ceteris paribus , government budget deficit would be reduced by 2.275% of GDP. Furthermore, 3SLS results show that this disciplinary effect is stronger for countries under a fixed exchange rate regime or for countries with weak central bank independence. The disciplinary effect is also found to be stronger in more recent periods-the 1990s-during which capital market integration has been most prevalent. Copyright Blackwell Publishing Ltd 2003.

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Article provided by Wiley Blackwell in its journal Review of International Economics.

Volume (Year): 11 (2003)
Issue (Month): 5 (November)
Pages: 830-844

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Handle: RePEc:bla:reviec:v:11:y:2003:i:5:p:830-844
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