above the effect of domestic financial deepening. Thus, our results add to the list of
potential benefits of capital account liberalisation.
However, a number of qualifications are necessary. First, with respect to per-capita
income convergence, the regressions show that even if a country were to achieve the
same degree of financial openness as the EU-15, the gap in per-capita income levels
would persist as long as there are differences in technology and in the rates of factors
accumulation, particularly human capital accumulation. Hence, financial liberalisation
is only one of the several policies that countries need to implement in order to sustain
income catching-up. Similarly, with respect to international trade, the empirical
evidence indicates that financial openness ought to be embedded in a broader context
of policies for trade facilitation, including the abatement of tariff and non-tariff
barriers (e.g., inefficient custom procedures, inadequate transport infrastructures).
Possibly, the most crucial qualification concerns the possible side-effects and
downward risks of financial openness. While our empirical analysis emphasises the
benefits of free international capital movements for the process of economic
integration, the experience of several other emerging economies world-wide calls for
a careful design and implementation of financial and capital account liberalisation in
the formerly centrally planned economies 17. The increased economic vulnerability
that is associated with integration into global financial links needs to be managed by
combining capital account liberalization with: (i) domestic financial sector reforms to
strengthen regulation and supervision, enforce sound and prudential lending practices,
achieve high-standards of governance of banks and other financial institutions; (ii)
trade policy and competition policy reforms to eradicate distortions that financial
openness might exacerbate; (iii) implementation of a coherent macroeconomic policy
mix characterised by low inflation and fiscal stability; and (iv) design of redistributive
tools to shield the most vulnerable socio-economic groups against the potential
damages of increased volatility. Finally, in the transition towards financial
liberalization, temporary and market-based capital controls might eventually be
considered to tilt the composition of inflows towards longer term maturities and so
prevent a maturity mismatch between investment projects and financing18 .
17 See for instance the discussion in Johnston et al. (1997), Dailami (2000) and Daianu and Vranceanu
(2002).
18 Successful experiences with those type of controls are reported for Chile and other Latin American
and East Asian economies. See, inter alia, Edwards (2002) and World Bank (2000).
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