Causes of capital flows in developing countries

This paper investigates the causes of capital flows in four developing countries: Mexico, Chile, Korea, and Malaysia. Using structural decomposition analysis, it finds that the recent resurgence in capital movements is largely due to external reasons such as decreases in the world interest rate or recession in industrial countries. Domestic factors, including country specific productivity shocks and demand shocks, are relatively less important. Another interesting finding is that the fundamental causes of capital flows differ little across the countries under study. These results suggest that developing countries need to pay attention to the financial arrangements associated with capital flows and to exchange rate policy as well as macroeconomic fundamentals to avoid financial crises in a world of increased capital mobility. (C) 2000 Elsevier Science Ltd. All rights reserved. JEL classification: F31; F33.