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Neoclassical theory suggests that international financial liberalization will contribute
to boost economic growth through a more efficient international allocation of capital
(Obstfeld, 1994; and Eichengreen and Mussa, 1998). However, in practice, in developing
countries, liberalization of capital flows has constantly been associated with serious economic
and financial crises, such as in Asia and Latin America in the 1990s. There are a number
of studies presenting the link between the liberalization of financial system and the
economic and financial crises, particularly in developing countries. Williamson and Drabek (1999),
for example, indicate that the only difference between the countries that did or did not
have economic crisis is the status of their capital account. Their finding is also in line with that
of Stiglitz (2000), who concluded that the growth benefits of capital account liberalization
are obscured by the costs of associated volatility. It is now well known that premature
financial liberalization seriously contributed to the occurrence and the depth of the crises in
countries such as Thailand, Korea and Indonesia, even if it was not the origin of the crises. On the
other side of the spectrum, India and China managed to avoid the crises and sustained their
economic growth (Fisher, 1993).
While the effects of financial liberalization have been much investigated, so far there
has been little attempt to explore the link between different modes of financial reforms
and observed economic performance. Financial liberalization is not an event, but a process
and may not follow the same pattern everywhere. Classification
of liberalization episodes based on the path chosen for liberalization is
essential, especially for policy implications.
The purpose of this study is to fill this gap and to analyze the evolution of two
different liberalization episodes (from India and Turkey). We chose these countries because they
are two of the fast growing and emerging economies of the past decade, but they follow
different paths in the conception and implementation of financial reforms. India's gradualist
approach to reform is contrasted with Turkey's financial liberalization, which can well be described
as a shock therapy. To carry out this task, our material is plenty. The initial state of the
economy before liberalization, the change in financial and economic structure, the change in
the nature of capital flows, macro policy response, and the observed economic growth in
the context of changing capital flows after liberalization will be the key parameters for
our evaluation. Based on an analytic review of liberalization policies applied in two countries,
the total outcome of the reforms are considered to assess the extent to which the two
different approaches were effective and successful in the development of these economies. |
