Financial Liberalization, Openness and Convergence

Abstract

Financial liberalizations have become associated with capital flow reversals, where initial capital inflows at the onset are subsequently offset by capital outflows resulting in higher levels of accumulated indebtedness shows that financial liberalizations often generate subsequent financial crashes. Stiglitz (1999) has long advocated limits to capital flows to moderate those boom-bust patterns that have been empirically linked to financial deregulation. In this paper we investigate how capital flow reversals caused by financial liberalizations affect the speed of convergence of an economy. Central to the analysis is the investigation how openness (access to international capital markets) mediates the effects of financial liberalizations on the speed of convergence as the removal of capital account distortions induces the economy to transition to a new growth path.

Keywords: financial liberalization, capital flow reversals