Threshold Effects in the Capital Account Liberalization and Foreign Direct Investment Relationship

This paper examines the effects of capital account liberalization (CAL) on Foreign Direct Investment (FDI). We use the System Generalized-Method-of-Moments (GMM) estimator developed for the dynamic panel model for a sample of 14 Middle East countries from 1985 to 2009. We find new evidence that countries that are able to reap the benefits of the capital openness policy satisfy certain threshold conditions regarding the level of financial development and institutional quality. Our results are relevant for Middle East countries since many of them have engaged in a process of liberalization, have weak institutions and an inappropriate financial framework.