nr 038 - Financing development: debt versus equity

DNB Working Papers
Date 20 May 2005
In this paper we investigate the impact of the balance between debt and equity finance on the financial stability of developing countries. Employing extreme bounds analysis to deal with model uncertainty, we estimate a model of an exchange rate pressure index depending on various financial capital stocks and flows. We find evidence for a stabilizing effect of FDI and a destabilizing effect of short-term debt and publicly guaranteed flows to commercial banks. We also investigate the path dependency of different types of capital flows controlling for different push and pull factors. In general, we find that existing stocks of short-term debt make it harder for a country to obtain new finance. Furthermore, the level of capital market development has an important impact on the composition of capital flows to a country. JEL codes: C33 C52 F21 Keywords: emerging markets, capital flows, currency crises, robust estimation