Chapter

Negative Alchemy?

Edited by Shang-Jin Wei and Yi Wu

in Preventing Currency Crises in Emerging Markets

Published by University of Chicago Press

Published in print November 2002 | ISBN: 9780226184944
Published online February 2013 | e-ISBN: 9780226185057 | DOI: http://dx.doi.org/10.7208/chicago/9780226185057.003.0011
Negative Alchemy?

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This chapter examines the influences of corruption and lack of transparency on capital flows composition. It focuses on the foreign direct investment (FDI). Corruption may influence the composition of capital inflows in such a way that the country is more likely to experience a currency crisis. A corrupt country seems to have a composition of capital inflows that is relatively light in FDI and relatively heavy in bank loans. Countries that are more corrupt tend to have a capital inflow structure that depends relatively more on bank borrowing than FDI. Furthermore, corruption could lead to a financial crisis by weakening domestic financial supervision and damaging the quality of banks' and firms' balance sheets. Thus, the connection between corruption and financial crises offers a reason to decrease corruption. The key to greater financial stability is not corruption per se but foreign loans and other short-term capital.

Keywords: corruption; capital flows; foreign direct investment; currency crisis; corrupt country; capital inflows; bank loans; financial crisis; foreign loans

Chapter.  16684 words.  Illustrated.

Subjects: International Economics

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