World Capital Flows: Who Invests Where and How Much
World capital flows: Who invests where and how much?
Presented By: Ankit Jaini (Y8087) Supervisor: Dr. Somesh K. Mathur
ECO 231
Abstract
Through this paper I plan to re-examine Lucas’s famous question, “Why doesn’t capital flow from rich countries to poor countries?” in the wake of the explosion of “emerging markets” investment over the past decade and also look into patterns of foreign investment.
Although more of a subjective analysis rather than an empirical one, I have tried to include a bit of quantitative estimation too in the paper with the hope of sufficiently describing and portraying my understanding of the paradox.
Introduction
Standard economic theory tells us that financial capital should, on net, flow from richer to poorer countries. That is, it should flow from countries that have more physical capital per worker—and hence where the returns to capital are lower-to those that have relatively less capital-and hence greater unexploited investment opportunities. In principle, this movement of capital should make poorer countries better off by giving them access to more financial resources.
As financial globalization increases, these flows from industrial to developing countries will increase, making all countries better off. This would seem an ideal situation, but what is the reality? In a famous article written in 1990, Robert Lucas pointed out that capital flows from rich to poor countries were very modest, and nowhere near the levels predicted by theory. Financial globalization has surged in the past decade and a half. While cross-border capital flows worldwide have risen substantially, reaching nearly $6 trillion in 2004, less than 10 percent of them go to developing countries.
What then has become of the empirical paradox that Lucas identified? Has increasing financial integration resolved it?
The Chart on the next page shows the
Presented By: Ankit Jaini (Y8087) Supervisor: Dr. Somesh K. Mathur
ECO 231
Abstract
Through this paper I plan to re-examine Lucas’s famous question, “Why doesn’t capital flow from rich countries to poor countries?” in the wake of the explosion of “emerging markets” investment over the past decade and also look into patterns of foreign investment.
Although more of a subjective analysis rather than an empirical one, I have tried to include a bit of quantitative estimation too in the paper with the hope of sufficiently describing and portraying my understanding of the paradox.
Introduction
Standard economic theory tells us that financial capital should, on net, flow from richer to poorer countries. That is, it should flow from countries that have more physical capital per worker—and hence where the returns to capital are lower-to those that have relatively less capital-and hence greater unexploited investment opportunities. In principle, this movement of capital should make poorer countries better off by giving them access to more financial resources.
As financial globalization increases, these flows from industrial to developing countries will increase, making all countries better off. This would seem an ideal situation, but what is the reality? In a famous article written in 1990, Robert Lucas pointed out that capital flows from rich to poor countries were very modest, and nowhere near the levels predicted by theory. Financial globalization has surged in the past decade and a half. While cross-border capital flows worldwide have risen substantially, reaching nearly $6 trillion in 2004, less than 10 percent of them go to developing countries.
What then has become of the empirical paradox that Lucas identified? Has increasing financial integration resolved it?
The Chart on the next page shows the
References: • Lucas, Robert, 1990, "Why Doesn 't Capital Flow from Rich to Poor Countries?" American Economic Review, Vol. 80 (May), pp. 92–96. • Gourinchas, Pierre-Olivier, and Olivier Jeanne, 2007, "Capital Flows to Developing Countries: The Allocation Puzzle," IMF Working Paper, forthcoming. • Calvo, Guillermo, Leonardo Leiderman and Carmen Reinhart (1996), “Inflows of Capital to Developing Countries in the 1990s,” The Journal of Economic Perspectives. • Reinhart C, Rogoff K. 2004. Serial Default and the “Paradox” of Rich to Poor Capital Flows. American Economic Review 94(2): 52-58. • Schneider F, Frey B. 1985. Economic and political determinants of foreign direct investment. World Development 13(2): 161-175. • Temple J., 1999, “The New Growth Evidence”, Journal of Economic Literature, volume 37(1), pp 112-156. Data Sources • World Development Indicator database (World Bank, 2005) • International Financial Statistics (IMF, 2005) • International Monetary Fund, 2002, International Investment Position: A Guide to Data Sources • Updated Barro-Lee dataset (Barro and Lee, 2000) • Datasets for the first era of financial globalization (Obstfeld and Taylor, 2003; Clemens and Williamson, 2004; Ferguson and Schularick, 2006).