Capital flows and real exchange rate: does financial development matter?

Heng, Dyna (2011): Capital flows and real exchange rate: does financial development matter?

Abstract

Volatile capital flows complicate emerging market economies’ macroeconomic management. This paper demonstrates that financial development helps reduce the impact of non-FDI inflows on real exchange rate appreciation. Using dynamic panel techniques and data from 78 developing economies for the period 1993-2009, this study finds that non-FDI has an appreciation impact on real exchange rate. However, the appreciation effects of FDI are not clear-cut. The empirical results also suggest that improving mobilization of financial resources through financial sector development helps dampen the real appreciation effects of non-FDI inflows. These results are useful for policy makers in their attempt to reconcile the dilemma of attracting foreign capital to enhance investment while maintaining competitiveness to promote exports and growth.

• Item Type: MPRA Paper
• Language: English
• Keywords: capital flows, financial development, real exchange rate
• Subjects: E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E58 - Central Banks and Their Policies; F - International Economics > F3 - International Finance > F31 - Foreign Exchange; F - International Economics > F3 - International Finance > F36 - Financial Aspects of Economic Integration; G - Financial Economics > G3 - Corporate Finance and Governance > G38 - Government Policy and Regulation

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