Determinants of Capital Flows: A Cross-Country Analysis

There are two basic approaches to identifying the determinants of capital flows, viz. the traditional and the portfolio (or modern) approach. Although most econometric models have by now forsaken the traditional capital flow equations in favour of modelling financial linkages via arbitrage type interest rate parity relations, the importance of fundamentals in explaining particular capital flow developments cannot be denied (International Monetary Fund, 1992). This paper identifies the determinants of capital flows using the conventional approach, and is based on a cross-sectional study of eight countries, viz. Australia, India, Indonesia, Argentina, Brazil, Chile, Columbia and Mexico. Non-linear Seemingly Unrelated Regression estimation has been used to allow for cross-country effects in the error structure.