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Wealth composition, valuation effect and upstream capital flows

In: Foreign Exchange Constraint and Developing Economies

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  • Baqais Uthman M.

Abstract

Contrary to the allocative efficiency hypothesis, Lucas's paradox shows that little capital flows into developing economies. Recent studies demonstrate an even stronger phenomenon known as upstream capital flows – a negative association between net capital inflows and economic growth – and provide explanations about human capital and institutional quality. This chapter argues for the role of wealth composition in general and natural capital in particular. By exploiting a recent database on wealth and utilizing multiple regression analyses, it examines the role of initial wealth composition while revisiting the allocative efficiency across 108 countries from 1995 to 2015. Overall findings indicate the significance of wealth composition in explaining capital flows, while there is no evidence of allocative efficiency. Results imply that capital mobility could allow subsoil resource-abundant countries to better smooth the use of resource windfalls by reducing their foreign exchange constraints. Besides, valuation effects play a stabilizing role in the international financial system.

Suggested Citation

  • Baqais Uthman M., 2023. "Wealth composition, valuation effect and upstream capital flows," Chapters, in: Aleksandr V. Gevorkyan (ed.), Foreign Exchange Constraint and Developing Economies, chapter 3, pages 46-70, Edward Elgar Publishing.
    • Handle: RePEc:elg:eechap:20432_3
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