Policy Uncertainty, Irreversibility, and Cross-Border Flows of Capital
London Business School
Board of Governors of the Federal Reserve System (FRB)
April 25, 2014
We examine the effects of government policy uncertainty on cross-border capital flows using election timing as a source of fluctuations in uncertainty. We compare variation in relatively irreversible foreign direct investment (FDI) flows with that of foreign portfolio investment (FPI) around election cycles, controlling for the determinants of both flows. FDI flows from US companies to foreign affiliates drop significantly during the period just before an election while FPI flows show no significant decline in the same time period. The election effect for FDI is larger than election cycles in domestic investment. The electoral patterns in FDI flows are more pronounced in countries with higher propensities for policy reversals and when elections are more competitive. The results suggest a likely causal link from political uncertainty to capital flows.
Number of Pages in PDF File: 49
Keywords: Political Uncertainty, Foreign Direct Investment
JEL Classification: G15, G31, G38
Date posted: March 20, 2012 ; Last revised: May 10, 2014
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