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Capital Account Liberalization, Institutions
and Financial Development:
Cross Country Evidence
by
Menzie D. Chinn*
UC Santa Cruz and NBER
and
Hiro Ito**
UC Santa Cruz
May 5, 2002
Acknowledgements: Helpful comments were received from Joshua Aizenman, Michael
Hutchison, Carl Walsh, Frank Warnock, participants at the UCSC brown bag, the USC
development seminar and, on an earlier version of the paper, the ANU-IMF East Asia Office
conference on “Regional Financial Markets” (Sydney, November 2001). We also thank Ashok
Mody and Dennis Quinn for providing data. Financial support of faculty research funds of UC
Santa Cruz are gratefully acknowledged.
* Menzie D. Chinn, Department of Economics, Social Sciences 1, University of California, Santa Cruz, CA 95064.
Tel/Fax: (831) 459-2079/5900 Email: chinn@cats.ucsc.edu .
** Hiro Ito, Department of Economics, Social Sciences 1, University of California, Santa Cruz, CA 95064. Email:
hiroito@cats.ucsc.edu .
Capital Account Liberalization, Institutions and Financial Development
Cross Country Evidence
Abstract
The empirical relationship between capital controls and the financial development of credit and
equity markets is examined. We extend the literature on this subject along a number of
dimensions. Specifically, we (1) investigate a substantially broader set of proxy measures of
financial development; (2) create and utilize a new index based on the IMF measures of exchange
restrictions that incorporates a measure of the intensity of capital controls; and (3) extend the
previous literature by systematically examining the implications of institutional (legal) factors.
The results suggest that the rate of financial development, as measured by private credit creation
and stock market activity, is linked to the existence of capital controls. However, the strength of
this relationship varies with the empirical measure used, and the level of development. These
results also suggest that only in an...