Volatility of capital inflows, economic growth and financial development in Sub-Saharan Africa
Thesis (PhD)--Stellenbosch University, 2016.
ENGLISH SUMMARY : In recent years, private capital flows to sub-Saharan Africa have increased considerably, becoming a major source of economic financing. Not only have private capital flow levels become important but also private capital flow volatility patterns. Many sub-Saharan African countries may not have the capacity to deal with pro-cyclical private capital flows (and subsequent reversals) which may impact on their macroeconomic performance. There is much controversy concerning the use of unrestricted financial openness policies as they could lead to crisis episodes and external shocks brought on by private capital flow volatility. The study conducts an investigation into the determinants and consequences of private capital flow volatility in sub-Saharan Africa. Specifically, the study addresses the following four questions: (a) What are the determinants of private capital flow volatility? (b) Is there a relationship between remittance volatility and financial sector development? (c) Is there a relationship between cross-border banking volatility (loans and deposits) and economic growth? (d) Is there a relationship between financial openness and output volatility? The results of the study have been organized into four empirical essays. The first essay investigates the determinants of foreign direct investment (FDI), portfolio equity and cross-border bank lending inflows. The panel data models are estimated using the Augmented Mean Group (AMG) estimator to account for cross-section dependence. The results show that: (1) Global liquidity lowers FDI volatility while for middle-income countries (MICs) global liquidity and global risk are significant drivers of FDI volatility; (2) Global risk increases portfolio equity volatility with the quality of macroeconomic policies and financial openness found to be important pull factors in lowering portfolio equity volatility; and (3) Financial openness and depth lowers cross-border bank lending volatility. For low-income countries (LICs), global liquidity lowers cross-border bank lending volatility while the quality of macroeconomic policies is an important pull factor in lowering volatility. Because global push factors are significant determinants of private capital flow volatility, sub-Saharan African countries should seek ways to strengthen their ability to deal with volatile episodes. Effective monitoring of capital flows, better trained and qualified staff, and greater sub-Saharan African country representation in international financial institutions to enable broader policy coordination is recommended. Positively, some of the results imply that prudent macroeconomic policies as pull factors can lower volatility. The second essay investigates whether remittance volatility impacts on financial sector development. Using panel data estimation techniques, the empirical evidence from this essay reveals that remittance volatility is detrimental to both banking sector depth and efficiency. No evidence is found that remittance volatility is related to stock market development. Sub-Saharan African countries should have measures in place to monitor the predictability of remittances. A policy question regarding the cost of remittance transfer is necessary. Sub-Saharan Africa remains the most expensive region to send money to and lowering transaction costs should result in more remittances being channeled through formal channels, making flows more predictable and less volatile. More competition among money transfer operators could possibly reduce the cost of remittance transfer and should be investigated. The third essay investigates whether cross-border banking volatility impacts on economic growth. Using a panel Generalized Method of Moments (GMM) estimation technique, this essay provides evidence that cross-border bank deposit volatility is detrimental to economic growth when the sample includes only resource-rich developing countries (RRDCs). The results further indicate that cross-border bank deposit flows contribute to economic growth in sub-Saharan Africa, but no evidence is found that cross-border bank lending is related to economic growth. RRDCs should have measures in place to monitor the predictability of bank deposit flows. Policy makers should further investigate ways to make banking less expensive for deposit customers as high minimum balance requirements and fees for account holders are prevalent in many African countries. The feasibility of investigating explicit deposit insurance within sub-Saharan Africa should be investigated as only a limited number of African countries have explicit deposit insurance. The fourth and last essay investigates whether financial openness is a source of output volatility. The essay investigates how financial openness impacts on output volatility through the channel of volatile FDI flows. The panel data models are estimated using the AMG estimator to account for cross-section dependence. The findings of this essay are as follows: (1) financial openness increases output volatility, (2) no evidence is found that FDI volatility is related to output volatility, (3) the extent to which financial openness increases output volatility does not depend on the degree of FDI volatility, and (4) for MICs, financial openness increases output volatility while for LICs increased trade openness and a higher level of economic development reduces output volatility. The results in this essay support the view that some countries may need to open up their capital markets using a more gradual approach. In conclusion, the combined evidence reveals that sub-Saharan African countries should be concerned with not only private capital flow levels, but also the volatility of such flows. The significance of global push factors as determinants of private capital flow volatility is highlighted. While not disputing the relative stability of remittances relative to other private capital flow types, this study reveals that remittance volatility is not trivial and impacts on banking sector development. The results further indicate that cross-border bank loans and deposits require a differentiated analysis. This thesis concluded by indicating that financial openness remains a controversial policy option in sub-Saharan Africa and is a source of output volatility.
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