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Tax Policy and International Capital Flows

  • Martin Feldstein

Although capital is now generally free to move across national borders, there is strong evidence that savings tend to remain and to be invested in the country where the saving takes place. The current paper examines the apparent conflict between the potential mobility of capital and the observed de facto segmentation of the global capital market. The key to reconciling this 'Feldstein-Horioka paradox' is that, although capital is free to move, its owners, and especially the agents who are responsible for institutional investments, prefer to keep funds close to home because of a combination of risk aversion, ignorance and a desire to show prudence in their investing behavior. The paper presents evidence on the capital mobility and on capital market segmentation. The role of hedging and the difference between gross and net capital movements for individual investors and borrowers are discussed. The special place of foreign direct investment is also considered. The segmentation of the global capital market affects the impact of capital income taxes and subsidies. This is discussed in the final section of the paper

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 4851.

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Date of creation: Sep 1994
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Publication status: published as The 1994 Bernhard Harms Prize Lecture
Handle: RePEc:nbr:nberwo:4851
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  1. Lawrence H. Summers, 1988. "Tax Policy and International Competitiveness," NBER Chapters, in: International Aspects of Fiscal Policies, pages 349-386 National Bureau of Economic Research, Inc.
  2. Harvey, Campbell R, 1995. "Predictable Risk and Returns in Emerging Markets," Review of Financial Studies, Society for Financial Studies, vol. 8(3), pages 773-816.
  3. Brainard, William & Tobin, James, 1991. "On the Internationalization of Portfolios," Discussion Papers 389, The Research Institute of the Finnish Economy.
  4. Feldstein, Martin S, 1978. "The Welfare Cost of Capital Income Taxation," Journal of Political Economy, University of Chicago Press, vol. 86(2), pages S29-51, April.
  5. Frederic S. Mishkin, 1982. "Are Real Interest Rates Equal Across Countries? An Empirical Investigation of International Parity Conditions," NBER Working Papers 1048, National Bureau of Economic Research, Inc.
  6. Jeffrey A. Frankel, 1991. "Quantifying International Capital Mobility in the 1980s," NBER Chapters, in: National Saving and Economic Performance, pages 227-270 National Bureau of Economic Research, Inc.
  7. French, Kenneth R. & Poterba, James M., 1990. "Japanese and U.S. cross-border common stock investments," Journal of the Japanese and International Economies, Elsevier, vol. 4(4), pages 476-493, December.
  8. Baxter, M. & Crucini, M.J., 1990. "Explaining Saving/Investment Correlation," RCER Working Papers 224, University of Rochester - Center for Economic Research (RCER).
  9. Maurice Obstfeld., 1994. "International Capital Mobility in the 1990s," Center for International and Development Economics Research (CIDER) Working Papers C94-037, University of California at Berkeley.
  10. Martin Feldstein, 1982. "Domestic Saving and International Capital Movements in the Long Run and the Short Run," NBER Working Papers 0947, National Bureau of Economic Research, Inc.
  11. Kenneth A. Froot, 1993. "Currency Hedging over Long Horizons," NBER Working Papers 4355, National Bureau of Economic Research, Inc.
  12. Thomas Horst, 1980. "A Note on the Optimal Taxation of International Investment Income," The Quarterly Journal of Economics, Oxford University Press, vol. 94(4), pages 793-798.
  13. Roger H. Gordon & A. Lans Bovenberg, 1994. "Why is Capital so Immobile Internationally?: Possible Explanations and Implications for Capital Income Taxation," NBER Working Papers 4796, National Bureau of Economic Research, Inc.
  14. Eichengreen, Barry, 1990. "Trends and Cycles in Foreign Lending," CEPR Discussion Papers 451, C.E.P.R. Discussion Papers.
  15. Tesar, L.L., 1988. "Savings, Investment And International Capital Flows," Papers 64, Brookings Institution - Working Papers.
  16. Martin Feldstein, 1994. "The Effects of Outbound Foreign Direct Investment on the Domestic Capital Stock," NBER Working Papers 4668, National Bureau of Economic Research, Inc.
  17. Sinn, Stefan, 1992. "Saving-Investment Correlations and Capital Mobility: On the Evidence from Annual Data," Economic Journal, Royal Economic Society, vol. 102(414), pages 1162-70, September.
  18. Martin Feldstein & Philippe Bacchetta, 1989. "National Saving and International Investment," NBER Working Papers 3164, National Bureau of Economic Research, Inc.
  19. French, Kenneth R & Poterba, James M, 1991. "Investor Diversification and International Equity Markets," American Economic Review, American Economic Association, vol. 81(2), pages 222-26, May.
  20. Gordon, Roger H, 1986. "Taxation of Investment and Savings in a World Economy," American Economic Review, American Economic Association, vol. 76(5), pages 1086-1102, December.
  21. Michael Dooley & Jeffrey Frankel & Donald J. Mathieson, 1987. "International Capital Mobility: What Do Saving-Investment Correlations Tell Us?," IMF Staff Papers, Palgrave Macmillan, vol. 34(3), pages 503-530, September.
  22. Maurice Obstfeld, 1985. "Capital Mobility in the World Economy: Theory and Measurement," NBER Working Papers 1692, National Bureau of Economic Research, Inc.
  23. Michael Mussa & Morris Goldstein, 1993. "The integration of world capital markets," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 245-330.
  24. Martin Feldstein, 1994. "Taxes, Leverage and the National Return on Outbound Foreign Direct Investment," NBER Working Papers 4689, National Bureau of Economic Research, Inc.
  25. Feldstein, Martin & Horioka, Charles, 1980. "Domestic Saving and International Capital Flows," Economic Journal, Royal Economic Society, vol. 90(358), pages 314-29, June.
  26. Murphy, Robert G., 1984. "Capital mobility and the relationship between saving and investment rates in OECD countries," Journal of International Money and Finance, Elsevier, vol. 3(3), pages 327-342, December.
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