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Managing Foreign Capital Flows: The Experience of Korea, Thailand, Malaysia, and Indonesia

Author

Listed:
  • Yung Chul Park

    (The Jerome Levy Economics Institute)

  • Chi-Young Song

    (The Jerome Levy Economics Institute)

Abstract

Between 1990 and 1994 developing countries in Asia posted $261 billion in net capital inflows, an amount equivalent to about half the total inflows to all developing countries. Although foreign direct investment accounts for the largest portion of net inflows to Asia, the share of portfolio investment has been steadily rising, from an average of 8 percent of net inflows between 1983 and 1989 to 24 percent between 1990 and 1994. Suggested reasons for the increase in portfolio investment have been a high demand for capital coupled with favorable growth prospects, deregulation and liberalization of capital accounts, domestic financial reform (which has facilitated foreign investment in domestic securities), lower interest rates, and international portfolio diversification. Capital inflows have been important in supporting high rates of investment, particularly in Indonesia, Malaysia, and Thailand, but short-term capital inflows also have threatened macroeconomic instability by inducing volatility of key financial variables such as the exchange rate. Threats to stability have, in turn, led countries to install direct control measures to dampen large swings in short-term capital inflows. In this working paper, Yung Chul Park, of Korea University and the Korea Institute of Finance, and Chi-Young Song, of the Korea Institute of Finance, analyze the experiences of Korea, Thailand, Malaysia, and Indonesia in managing these capital inflows. Park and Song found that for each of the four countries, following the surge in capital inflows, inflation rates rose (although they note that there is not necessarily a causal relationship between the two events) and real effective exchange rates declined (the result of a gradually rising share of investment to GDP and fiscal discipline). Moreover, there appeared to be no long-term rise in financial market volatility as compared to the period preceding the rise in capital inflows. The authors attribute this to policies of exchange rate sterilization, monetary stabilization, and fiscal restraint. In particular, exchange rates likely remained stable because each country adopted a similar interventionist policy to prevent rapid appreciation of the nominal rate.

Suggested Citation

  • Yung Chul Park & Chi-Young Song, 1998. "Managing Foreign Capital Flows: The Experience of Korea, Thailand, Malaysia, and Indonesia," Macroeconomics 9807002, University Library of Munich, Germany.
  • Handle: RePEc:wpa:wuwpma:9807002
    Note: Type of Document - Acrobat PDF; prepared on IBM PC; to print on PostScript; pages: 81; figures: included
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    References listed on IDEAS

    as
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