This paper analyzes capital flight from a group of seventeen developing nations
over the period 1978 to 1993. The paper briefly discusses several empirical
definitions of capital flight and presents estimates of capital flight for the
sample based on some of these measures. In general, the data reveal periodic
episodes of dramatic flight through the late 1980s, at which point many nations
began to experience strong capital inflows. Anecdotal evidence for the nations
in our sample underpins our hypothesis that capital flight is driven by a
heightened, pervasive risk which reflects the degree of domestic macroeconomic
imbalance which is domestically undiversifiable. Our econometric model of the
determinants of capital flight extends previous empirical studies of flight by
expanding both the cross section of nations and time horizon of analysis.
Given the panel data set, we consider a country specific error component to
account for the possibility of unobserved country heterogeneity and employ
fixed- effects and random-effects estimation. We instrument for potentially
endogenous explanatory variables and in doing so consider a fixed-effects
system. The results, based on several different measures of flight, highlight
the importance of modelling flight with a country specific error component.
While other proxies of the risk associated with macroeconomic imbalance are not
significant, the central government surplus is negatively, statistically
significantly related to flight. This highlights the motivation of investors
to move capital both to escape future taxation directly and indirectly via
monetization of deficits. Therefore, even when taking into account other
measures of risk, the higher taxation risk, both directly and indirectly
through expectations of future inflation, dominates the regressions.
Full paper (407 KB PDF)
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