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The quality of bureaucracy and capital account policies

  • Bai, Chong-en
  • Wei, Shang-Jin

The extent of bureaucracy varies extensively across countries, but the quality of bureaucracy within a country changes more slowly than economic policies. The authors propose that the quality of bureaucracy may be an important structural determinant of open economy macroeconomic policies - especially the imposition or removal of capital control. In their model, capital controls are an instrument of financial repression. They entail efficiency loss for the economy but also generate implicit revenue for the government. The results show that bureaucratic corruption translates into the government's reduced ability to collect tax revenues. Even if capital controls and financial repression are otherwise inefficient, the government still has to rely on them to raise revenues to provide public goods. Among the countries for which the authors could get relevant data, they find that the more corrupt ones are indeed more likely to impose capital controls, a pattern consistent with the model's prediction. To deal with possible reverse causality, they use the extent of corruption in a country's judicial system, and the degree of democracy, as the instrumental variables for bureaucratic corruption. The instrumental variable regressions show the same result: more corrupt countries are associated with more severe capital controls. The results suggest that as countries develop and improve their public institutions, reducing bureaucratic corruption over time, they will choose to gradually liberalize their capital accounts. Removing capital controls prematurely when forced by outside institutions to do so could reduce rather than improve their economic efficiency.

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Paper provided by The World Bank in its series Policy Research Working Paper Series with number 2575.

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Date of creation: 31 Mar 2001
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Handle: RePEc:wbk:wbrwps:2575
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  1. Leonardo Bartolini & Allan Drazen, 1996. "Capital account liberalization as a signal," Staff Reports 11, Federal Reserve Bank of New York.
  2. Natalia T. Tamirisa & R. B. Johnston, 1998. "Why Do Countries Use Capital Controls?," IMF Working Papers 98/181, International Monetary Fund.
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  4. Pranab Bardhan, 1997. "Corruption and Development: A Review of Issues," Journal of Economic Literature, American Economic Association, vol. 35(3), pages 1320-1346, September.
  5. Natalia T. Tamirisa, 1998. "Exchange and Capital Controls As Barriers to Trade," IMF Working Papers 98/81, International Monetary Fund.
  6. Daniel Kaufmann & Shang-Jin Wei, 1999. "Does "Grease Money" Speed Up the Wheels of Commerce?," NBER Working Papers 7093, National Bureau of Economic Research, Inc.
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  8. Shang-Jin Wei, 1997. "How Taxing is Corruption on International Investors?," William Davidson Institute Working Papers Series 63, William Davidson Institute at the University of Michigan.
  9. Ades, Alberto & Di Tella, Rafael, 1997. "National Champions and Corruption: Some Unpleasant Interventionist Arithmetic," Economic Journal, Royal Economic Society, vol. 107(443), pages 1023-42, July.
  10. Chong-En Bai & David D. Li & Yingyi Qian & Yijiang Wang, 1999. "Limiting Government Predation Through Anonymous Banking: A Theory with Evidence from China," William Davidson Institute Working Papers Series 275, William Davidson Institute at the University of Michigan.
  11. Wyplosz, Charles, 1986. "Capital controls and balance of payments crises," Journal of International Money and Finance, Elsevier, vol. 5(2), pages 167-179, June.
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  13. Alesina, Alberto F & Grilli, Vittorio & Milesi-Ferretti, Gian Maria, 1993. "The Political Economy of Capital Controls," CEPR Discussion Papers 793, C.E.P.R. Discussion Papers.
  14. Shang-Jin Wei, 2000. "Corruption, composition of capital flows, and currency crises," Policy Research Working Paper Series 2429, The World Bank.
  15. Dani Rodrik & Andres Velasco, 1999. "Short-Term Capital Flows," NBER Working Papers 7364, National Bureau of Economic Research, Inc.
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