Macroeconomic Effects of Capital Account Liberalization: The Case of Korea

Abstract

Many emerging market economies have relaxed and removed statutory restrictions on capital account transactions and liberalized domestic financial markets to capture the benefits of capital inflows.¹ However, in a number of cases, capital account liberalization and ensuing capital surges seem to be associated with financial crises. We also observe that, following capital account liberalization, many countries experience so-called “boom-bust cycles.”² Then, does capital account liberalization lead to financial crises or boom-bust cycles? This question has significant policy implications for developing countries under the process of capital account liberalization. In order to answer this question, it is necessary to understand how capital account liberalization affects the dynamics of domestic macroeconomic variables. However, despite its importance, this issue has not been explored much in the literature, as authoritatively suggested by Eichengreen et al. (1998) surveying the related studies.³

This chapter is reproduced from Review of Development Economics, 2004; 8(4): 624–639, with minor changes.