Quantifying the effects of capital controls in small states

Abstract

Capital account liberalization can potentially have important effects on the economy. Numerous techniques have been employed in the literature to quantify these restrictions. These include ex-post macroeconomic indicators, regression-based indices and qualitative indices of capital control legislation. This paper evaluates the effect of the removal of capital account controls on small island developing states. In order to evaluate the robustness of the relationship between capital account liberalization and growth, the study uses a bootstrap approach to index construction. This approach allows one to assess the potential effects of differences in index specification as well as explain inconsistencies reported in the published literature. The results reported in the study suggest that the relationship between capital account liberalization and growth is fragile but positive. These results imply that the countries should approach capital account liberalization with caution, as simply removing restrictions does not guarantee growth.

Keywords:

• capital account controls
• bootstrap
• small states
• economic growth

Notes

1. The methodological approach is discussed later in the study (section 3.2).

2. Note that at least 13 years are used to estimate the models. The results are therefore reported for sub-samples of the entire database.

3. Results available from the author upon request.