Capital flight conforms to portfolio allocation theory, which states that capital flows are determined by rates of return and risk. The present study examines the effect of political risk on the extent of capital flight in South Africa over the period 1960-1995. South Africa is a good test case because the country experienced high political risk and capital flight for many of the years between 1960 and 1995. After testing for cointegration, we estimate the impact of political risk measured by a political instability index on capital flight.
GENERAL INTRODUCTION
Introduction
In this approach, capital flight is defined as the sum of private, short-term capital outflows plus errors and omissions (statistical discrepancy) in balance of payments statistics. In fact, this thesis provides some evidence to support the use of the indirect measure of capital flight. The key question in this thesis is, does political risk lead to an increase in the extent of capital flight.
Conclusion
LITERATURE REVIEW: POLITICAL RISK AND CAPITAL FLIGHT
- Introduction
- A theoretical framework for political risk and capital flight
- Returns on domestic assets
- Returns on foreign assets
- Macroeconomic instability
- Changes in a political regime
- The model
- TRENDS AND CAUSES OF POLITICAL RISK AND CAPITAL FLOWS IN SOUTH AFRICA FOR THE PERIOD 1960-1995
Capital outflow is thus a function of internal rates of return, foreign rates of return and risk factors. Based on variables for rates of return, economic risk and political risk in South Africa, the following empirical models will be estimated in order to empirically test the hypothesis that political instability or lack of political freedom leads to an increase in capital size. the flight. The hypothesis to be tested in this thesis is that either political instability or lack of political freedom leads to an increase in the size of capital flight.
CHANGE IN POLITICAL FREEDOM INDEX
A study by Bond (1999) shows that since 1985, most Western banks have canceled short-term loans to South Africa. The inflow of capital in 1981 and 1982 was mainly attributed to booming gold prices, which attracted foreign capital to South Africa. Despite the differences in the magnitude of capital flight from South Africa shown by the two measures, both indicate that South Africa experienced capital flight in the 1970s and 1980s.
This period coincided with the inflow of short-term capital into South Africa (capital flight measured using the balance of payments approach). Returns on South African assets were also higher between 1983 and 1995, but both measures of capital flow show that capital flowed out of the country as a result of the significant political instability that prevailed in South Africa during that period. The higher returns on American assets that prevailed in 1963 and 1964 led to the outflow of capital from South Africa in response to higher returns abroad.
Other variables affecting capital flows in South Africa were the rate of GDP growth and the over/undervaluation of the exchange rate. Figure 2.3 above shows that South Africa had a high rate of GDP growth from the mid-1960s to the early 1970s. For most of the mid-1980s and 1990s, South Africa had a low GDP growth rate and sometimes a negative growth rate.
Both measures of capital flight show that capital flowed into South Africa from the mid-1960s to the early 1970s, indicating that a high GDP growth rate played a role in attracting capital flows to South Africa.
CHANGE IN EXCHANGE RATE UNDERVALUATION(+)/OVERVA
Macroeconomic instability in the form of overvaluation of exchange rates leads to expectations that the government will impose higher taxes and, paradoxically, tax-like distortions such as a large exchange rate depreciation. All this affects lower returns and increases the risk and uncertainty associated with domestic wealth.Therefore. Overvaluation of exchange rates increases the incentives for capital flight. Capital flight, which dominated much of the mid-1970s, 1980s and early 1990s, led to the undervaluation of the South African currency as the outflow of capital created a shortage of dollars in the South African economy. This caused the rand to depreciate below its equilibrium level.
LUATION(-)
Conclusion
1963 General Laws Amendment Act NO.37: significant further curtailment of civil liberties, including the content of illegal political. Aliens Control Act No. 30: limits aliens' appeals against executive actions (under the Admission of Persons to the Union Act of 1913). Bantu laws amend Act No. 42: further restriction of free movement and residence of natives.
Act on changes in group areas no. 69: extension of executive powers in the implementation of provisions on group areas. Act amending the Council of Colored Representatives no. 94: assigns black representatives to Transkei on colored. Fifth Amendment Act of 1980 No. 101: threatens representation by introducing appointed members of parliament.
Demonstration in or near the Court Building Act No. 71: further restriction of freedom of association and assembly. Constitutional Amendment Act No 146: enabled Parliament to delegate constitutional amendment powers to another body. Constitutional Amendment Act NO.147: allowed state president to appoint anyone to cabinet regardless of race or status.
Referendum Amendment Act NO. 97: including all or any part of South African citizenship in the definition of a voter.
EMPIRICAL ANALYSIS: RESULTS AND DISCUSSION
Introduction
Data
- Stationarity and unit roots
- Cointegration
This makes the use of conventional critical values of the standard t-distribution invalid. From equation 3.4 it can be seen that the first difference of the non-stationary time series has been made stationary by differentiating as P =1. The previous non-stationary time series has become stationary and contains no unit root. If the absolute value of the calculated t-statistic exceeds the absolute value of the critical Dickey-Fuller tau statistic from tables, the hypothesis that the time series is non-stationary is rejected.
However, if the calculated absolute value of the t-statistic is lower than the absolute value of the critical Dickey-Fuller tau statistic, then the hypothesis that the time series is non-stationary is accepted. If the calculated absolute value of the t-statistic exceeds the absolute value of the critical Engle-Granger tau statistic, the hypothesis that the estimated residual is non-stationary, meaning that the individual time series are cointegrated, is rejected. However, if the calculated absolute value of the t-statistic is less than the absolute value of the critical Engle-Granger tau statistic, the hypothesis that the estimated residual is non-stationary is accepted, meaning that the individual time series are not cointegrated.
If the calculated absolute value of the t statistic exceeds the absolute value of the Dickey-Fuller critical tau statistic from the tables, we reject the hypothesis that the time series is non-stationary. From table 3.1 it can be seen that, in absolute terms, the calculated value of the indirect measure of capital flight (CFIND), the change in the over/undervalued exchange rate (DOVAL) and the log index of political instability (LNINST) are more less than the Dickey-Fuller tau statistic of -2.93. Thus we accept the null hypothesis that the time series CFIND, DOVAL and LNINST are all non-stationary. If the calculated absolute value of the t statistic exceeds the absolute value of the Engle-Granger critical tau statistic from the tables, this means that the residuals are stationary and thus the individual time series are cointegrated.
Only two of the seven coefficients reported using the indirect method in Table 3.4 are statistically insignificant. A comparison of this study with the Fedderke and Liu (1999) study in Table 3.6 above shows that the estimated standardized coefficients have the same sign. Using the LAE estimator (a robust estimator) from table 3.7b, we find that all of the five estimates are statistically significant.
GENERAL CONCLUSIONS
It is therefore important that appropriate policies are put in place to remove uncertainty arising from political instability in South Africa in order to attract the inflow of foreign capital to South Africa. Clearer and more appropriate policies should be put in place to remove uncertainty surrounding the land distribution problem in South Africa. Uncertainty surrounding the land issue in South Africa has been partly responsible for scaring away potential investors. Eradicating corruption in government through measures that ensure more transparency, accountability and credibility of public officials should be a high priority.
These include the classification of South Africa as an emerging market, which makes the country vulnerable to capital flight, as investors consider emerging markets too risky. Argentina's default on its foreign debt raised investor fears of contagion effects on other emerging markets, leading to capital flight from South Africa. The Zimbabwean land crisis and the high crime rate in South Africa negatively affected capital flows.
The combination of these factors is a major reason behind capital flight from South Africa. Policies to stem this capital flight include raising short-term interest rates, tightening exchange controls, at least for a short period, and strengthening the ability of police to reduce the crime rate (see section 3.8, pages 78-81 ). The research supports Fedderke and Liu's claim that capital flows into South Africa are sensitive to political risks. Greater political rights and political stability in South Africa help reduce capital outflows. This thesis shows (by replicating Fedderke and Liu's research) that political instability, as measured by the political instability index, had a greater impact on stimulating capital flight from South Africa between 1960 and 1995 than the political freedom index , which confirms Fedderke and Liu's hypothesis and reports results.
South Africa's National Accounts: Supplement to the Quarterly Bulletin of the South African Reserve Bank, June 1994. iii) Exchange rate adjusted interest rate differential.
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