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					 Myth or Reality?
The Diffusion of Financial Liberalization in
          Developing Countries
        IPES, Princeton November 17, 2006

                  Nancy Brune
            (nbrune@sas.upenn.edu )
              Alexandra Guisinger
              (guisinger.1@nd.edu)
Testing policy diffusion hypotheses
 Countries as interdependent policy decision makers
    Strang and Chang 1993; Guler et al 2002; Meseguer 2002;
     Heinsz et al 2005; Brooks 2002; Cunre and Garrrett 2000; Kogut
     and Macpherson 2005; Guisinger 2005; McNamara and Castro
     2003; Coppedge 2005
    Specific to financial liberalization Simmons and Elkins 2004;
     Quinn and Toyoda 2005; Kobrin and Wu 2005
 Concerns
    Is diffusion just capturing trend towards liberalization?
    How can we be certain that diffusion mechanisms are at work?
 Solution
    Analysis of multiple distinct but similar policy decisions
    Linking distinct diffusion causal mechanism to specific policy
     decisions
Financial Liberalization
        Percentage of Developing Countries with Financial Openness Score>1
  100

   80

   60

   40

   20

    0
        1970   1974    1978    1982   1986    1990    1994   1998    2002

 “The economics profession knows a great deal about current
  account liberalization … It knows far less about capital account
  liberalization. It is time to bring order both to thinking and policy on
  the capital account.” Stanley Fischer, 1988
Diffusion Mechanisms
 Capital Controls suited to diffusion mechanism
   Uncertainty of economic outcome
   Low political saliency
   Often technocratic decision-makers
 Mechanisms
   Competition for capital (defined by S&P Rankings)
   Emulation of economic peers (defined by economic or
    export structure)
   Emulation of trading partners (participation in RTAs)
Data
 12 Capital Control Categories
      Inflows of Invisibles              Outflows of Invisibles
      Inflows affecting Capital and      Outflows affecting Capital and
       Money Mrkt Securities               Money Mrkt Securities
      Inflows affecting Credit           Outflows affecting Credit
       Operations                          Operations
      Inward Direct Investment           Outward Direct Investment
      Proceeds from Exports              Real Estate Transactions
      Exchange Rate Rules                Commercial Banking Rules
 117 developing countries, from 1970-2002
 Generates 12 obs. for each country year in full dataset
 Additionally, partition dataset according to whether controls
  affect Capital Market, Credit Market, FDI, or Current Account
 Diffusion variables: Average policy of peer/partner in same
  capital control category
Testing policy for policy adjustments
                                                 All Capital Control
Capital Control Measures (12 per country)        Measures
                                                   Coef.        SE
Prior Years Policy (lagged dependent variable)      7.14      (0.14)   ***
Currency Crisis                                     0.08      (0.13)
US World Real Interest Rates                       -0.09      (0.04)   **
GDP Growth                                          0.01      (0.01)
Savings                                            -0.03      (0.01)   ***
Current Account Balance (IMF and World Bank)        0.00      (0.01)
Reserves                                           -0.04      (0.01)   ***
Square Root of Inflation                            0.00      (0.01)
Fixed Exchange Rate                                -0.48      (0.15)   ***
GDP Per Capita logged                               0.28      (0.12)   **
Trade                                               0.01      (0.00)   ***
Private Capital                                     0.01      (0.00)
Central Bank Independence                           0.26      (0.19)
Democracy - 1 if country democratic (ACLP)         -0.22      (0.18)
Right Party In Power                                0.50      (0.15)   ***
Country under IMF Program                           0.47      (0.13)   ***
Diffusion Measure - Trade Weighted Average          0.89      (0.35)   ***   Not Shown:
Diffusion Measure - S&P Average                     0.99      (0.56)   *     Controls for type
Diffusion Measure - Economic Type Average           1.40      (0.58)   **    of capital control
Diffusion Measure - Export Type Average            -1.76      (0.60)   ***
Diffusion Measure - RTA Average                     1.62      (0.26)   ***   and time
Controls on EXP                                     1.38     (0.43)    ***
Testing Specific Causal Mechanisms
Capital Openess 1970-2004            Capital Market       Credit Market         FDI        Current Account
(Countries=117)                     Coef. SE             Coef. SE         Coef. SE         Coef. SE
Economic Variables Not Shown
Central Bank Independence            -0.47 (0.46)          0.58 (0.45)     0.06 (0.34)      0.31 (0.33)
Democracy (1=Dem)                     0.32 (0.44)        -0.98 (0.46) **  -0.61 (0.34) *    0.23 (0.33)
Right Party In Power                  1.11 (0.39) ***      0.86 (0.37) **  0.77 (0.33) **   0.27 (0.28)
Country under IMF Program             0.94 (0.39) **       0.08 (0.35)     0.67 (0.32) **   0.83 (0.26) ***
Diff: RTA Average                     1.73 (0.96) *        0.77 (0.85)     2.04 (0.74) *** 1.61 (0.55) ***
Diff: Trade Weighted Average          0.97 (1.08)          0.37 (0.92)    -0.47 (0.76)      1.26 (0.738 *
Diff: S&P Average                     1.87 (2.01)        -1.38 (1.79)      0.87 (1.37)      0.04 (1.16)
Diff: Economic Type Average           1.31 (1.94)          1.33 (1.45)     3.00 (1.36) **   1.50 (0.95)
Diff: Export Type Average            -4.14 (2.11) *      -3.92 (1.56) **  -1.17 (1.47)     -1.34 (0.98)
time                                  0.01 (0.04)          0.11 (0.05) **  0.02 (0.04)      0.04 (0.03)
Constant                           -10.86 (2.43) *** -12.59 (2.46) *** -5.45 (1.73) *** -8.87 (1.70) ***
Observations                         3780                 3780            3780             5670
Standard errors in parentheses
* significant at 10%; ** significant at 5%; *** significant at 1%

Sources: Central Bank Independence (Cukierman, McNamara); Democracy - 1 if country democratic (ACLP);
Right Party In Power;(Addonizio/Brune); Country under IMF Program (Vreeland, Brune 2000-2004)
Conclusions
 Evidence of Diffusion
 Trade-related networks positively linked
  to diffusion of financial liberalization
   Lends support to argument that trade
    promotes financial liberalization
 Diffusion much more evident on
  transparent policies (FDI vs. capital
  markets)
 Difficult to distinguish between diffusion
  mechanisms

				
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posted:9/14/2012
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