Essays on international and intra-national capital mobility of China

Abstract

This thesis is focused on two issues: capital flows to China and capital mobility across provinces and regions in China. First, this thesis attempts to model the time series characteristics of capital flows to China over the period 1999-2008, namely, bond flows (BF), equity flows (EF), bank credit (BC), and foreign direct investment (FDI). By utilizing the state space model and using the Kalman filtering algorithm with maximum likelihood estimation, we try to gauge the relative importance of the permanent and temporary components of each series. By incorporating intervention and explanatory variables, we also try to detect if the capital control measure imposed by the Chinese government and the market sentiment of RMB foreign exchange rate appreciation expectation have any effect upon those flows. The empirical result shows that all four flows are dominated by a transitory component, among which BC flows have a relatively large permanent component and are the only series sensitive to market sentiment measure. In addition, capital control measures successfully skew flows to come in through FDI and bond flow channels instead of equity flows. Our extended model with intervention and explanatory variables for those flows also have better prediction performance compared to Sarno and Taylor (1999a) and the benchmark models. Secondly, we examine provincial and regional capital mobility in China, and track how the degree of mobility has changed over time under the framework of Feldstein and Horioka (1980) from 1978 to 2006, during periods of economic reform. The effects of fiscal and redistributive activities of different levels of government in China on private capital mobility are taken into account. By estimating the cointegrating vector of saving and investment through bootstrap panel cointegration technique from Chang (2004) and Chang et al. (2006) which properly handle cross-sectional dependency, we show that there is a significant improvement in capital mobility over time in China, particularly for private capital in the more developed regions. The central and provincial governments, via their taxation, spending, and transfers, loosen the relationship between private saving and investment, and appear to promote capital mobility, particularly for less developed regions. Third, we use an alternative framework from Campbell and Mankiw (1990a,b) to assess the evolution of regional capital mobility in China between 1978 and 2008. Panel time-varying coe±cient methods show that changes in capital mobility across China, driven by market-oriented economic reform, have had only a slight impact on the relation between consumption and net output across regions. Random coe±cient model with parameter endogeneity shows that when assuming heterogeneity across regions, we only observe a slight increase in capital mobility across time, which is comparable to some of the results in the framework of Feldstein and Horioka (1980).