Macroeconomic effects of capital account liberalization: evidence from sub-Saharan Africa

Mughogho, Tamara Esther
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thesis examines the macroeconomic effects of capital account liberalization (CAL) for a panel of Sub-Saharan Africa (SSA) countries from 1996 to 2013. Specifically, the study examines the effects of CAL on capital flows, financial sector development, financial crisis, and exchange rates. For this study, several methodologies are employed and these include System-Generalised Method of Moments (GMM), Least Squares Dummy Variables (LSDV), Fixed Effects (FE), Autoregressive Distributed Lag (ARDL) Models, and Propensity Score Matching (PSM) techniques. The study makes several key findings. Firstly, the study finds that liberalizing capital inflows promotes the inflows of capital into SSA. This is particularly so for foreign direct investment. The study also provides evidence of significant thresholds effects of institutional quality and financial sector development. That is, higher levels of institutional quality and financial sector development help to enhance the effects of CAL on capital flows. Secondly, the study unearths that CAL, implemented on its own, has a negative effect on financial sector development. However, liberalization of capital accounts coupled with substantial trade openness has a positive effect on financial sector development. It is also concluded that liberalization of capital flows reduces the exchange market pressure in SSA. This implies that capital account openness is unlikely to induce a currency crisis for SSA. This result holds even after controlling for sample selection bias. Lastly, the findings of the study suggest that CAL leads to exchange rate appreciation for SSA countries. However, this effect is attenuated with higher levels of financial sector development. The study has made significant contributions to the body of knowledge in several key ways. Firstly, the study provides regional evidence of macroeconomic effects CAL in SSA where extant studies for SSA have mostly been single country studies which focused on examining effects on economic growth. In addition, the study makes methodological contributions by employing sample splitting techniques, to examine the presence of threshold effects, and examining potential non-linear dynamics in the effects of CAL. Lastly, the study employs a new measure of CAL which, not only builds upon past measures and improves on them, but also disaggregates CAL based on several criteria such as asset type, the direction of liberalization and whether liberalization is on residents or non-residents. Keywords: Capital account liberalization, financial sector development, capital flows, financial crisis, currency crisis, exchange rate appreciation.