Does Financial Globalization Induce Better Macroeconomic Policies?

May 1, 2004

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Format: Chicago

Shang-Jin Wei, and Irina Tytell. Does Financial Globalization Induce Better Macroeconomic Policies?, (USA: International Monetary Fund, 2004) accessed November 21, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

Monetary and fiscal policies around the world are in better shape today than two decades ago. This paper studies whether financial globalization has helped induce governments to pursue better macroeconomic policies (the "discipline effect"). The empirical tests have two innovations. First, we recognize potential endogeneity of the observed capital flows in a given country and employ an instrumental variable approach that relies on the autonomous (global) component of the capital flows. Second, we recognize inherent discreteness in defining good versus bad macroeconomic policies and use a transition matrix technique to determine whether capital flows are effective in inducing substantial qualitative policy shifts. Our results suggest that, in spite of the plausibility of the "discipline effect" in theory, it is not easy to find strong and robust causal evidence. There is some evidence that financial globalization may have induced countries to pursue low-inflation monetary policies. However, there is no evidence that it has encouraged low budget deficits.

Subject: Budget planning and preparation, Capital flows, Globalization, Government debt management, Inflation

Keywords: Budget deficit, Transition matrix, WP

Publication Details

Pages:

40
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2004/084
Stock No:

WPIEA0842004
ISBN:

9781451850673
ISSN:

1018-5941

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