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Capital Account Liberalisation: A Developing Country Perspective

Research report

Research report

This is a report on  ODI conference on 'Capital Account Liberalisation: A Developing Country Perspective’ (June 2000).

In recent years, particularly following the crises in East Asia, Russia and Brazil, the opening up of the capital account has been a subject of intense debate with an emerging consensus on the need to manage the risks posed by rapid and large flows of short-term capital. Meanwhile, some of the poorer countries have already taken significant steps to liberalise their capital accounts but are now faced with the problem of trying to manage capital flows in a very liberalised environment. Although private capital flows to the poorer countries are negligible in absolute numbers, in some countries they are sizable as a ratio to GDP and gross fixed capital formation.

The papers presented at the conference and the discussions that followed provided an excellent overview of the current debate on how and to what extent developing countries should liberalise their capital accounts.

Six main papers were presented at the conference followed by a panel discussion. Benu Schneider provided an overview of the issues in capital account liberalisation based on academic literature and country experiences and drew the main lessons for developing countries based on the analysis in her paper. She made a case for distinguishing between capital controls and prudential limits and highlighted the environment in which short-term controls can be useful whilst at the same time pointing out limitations. Benu Schneider also emphasised the importance of sequencing of the capital account while opening up the current account. Her paper discussed the preconditions and sequencing arguments and outlined three strategies for opening up of the capital account. John Williamson discussed the different forms of capital inflow (official, foreign direct investment (FDI), portfolio, and loans) and evaluated them along six dimensions (cost, conditionality, risk bearing properties, transfer of intellectual property, and their impact on investment and their vulnerability to sudden reversals). Christopher Gilbert (in a joint paper with Gregor Irwin and David Vines) analysed the issues related to the international financial system, in particular the mechanisms for dealing with financial crises. These were followed by three case studies. Y.V. Reddy, the Deputy Governor of the Reserve Bank of India, discussed India’s transition to capital account convertibility and the characteristics of its policy regime that seek to maximise the benefits of capital account convertibility while at the same time shielding the country from its potential costs. From the perspective of a small developing country, Louis Kasekende, the Deputy Governor of the Bank of Uganda, examined Uganda’s experience with an open capital account. Wilson Banda, Reserve Bank of Malawi, discussed the problems in opening up the capital account in a small economy and drew lessons from some regional experiences.

This report is structured to present the main conclusions that emerged from the conference. Section 2 presents an overview of issues regarding sequencing and preconditions. Section 3 examines a variety of policy issues that bear upon capital account convertibility, such as transparency, monetary policy tools, capital controls and the functioning of the international financial system in times of crisis. Section 4 sums up some of the main policy conclusions.

Dr Benu Schneider