In the era of economic globalization, financial liberalization and international–
lization is an inevitable trend. With the trend of the times, the emerging market countries in East Asia liberalize their financial markets one by one. Although the influx of a vast amount of international capital may become the capital needed for economic development, the unsound financial system, and the unstable political state in these countries may lead to a currency crisis. Therefore, this research aims to probe into the correlation between capital controls and currency crises, with the variables of government stability of the emerging market countries in East Asia.
As to methodology, this research is conducted with Schindler’s approach to measure capital controls (2009), through the empirical Probit regression model, to determine whether the capital controls can reduce the occurrence of financial crises. We illustrate the empirical results with case studies such as Thailand, Indonesia, Malaysia, and China, and also make a comparative analysis between Taiwan and South Korea, since they are similar in political, cultural and economic development.
The empirical results are significant negative correlation between capital controls and currency crisis; that is, the stricter a country''s implementation of the capital controls, the more likely it can reduce the occurrence rate of currency crisis. Probing into the cause of the reasons, maybe East Asian governments are vigorously implementing economic development policies to attract investments from foreign investors during the selected period of this study. With rapid economic growth, their people are not quite concerned about the power struggle and the corruption of the rulers. Besides, the data of government stability in this study is taken from The Political Risk Services Inc compiled by the international country risk guide database. Its government stability is determined by the government’s ability to carry out and implement the proclaimed policies. With the rapid development of economic development, their people value economic benefits more than political factors. Additionally, the political background is very different between the East Asian countries and the Western countries. It would lead to differences in results by using the risk guide database of government stability compiled by The Political Risk Services Inc. in the Western countries.
To sum up, in proper situations, correlated with appropriate exchange rate system, capital controls can be an effective means to prevent currency crises.