Elections and Capital Flows

This paper investigates the extent to which national elections affect capital flows. I find little evidence of political capital flow cycles in advanced economies. In emerging and developing countries, however, presidential elections have a significant impact on foreign direct investment (FDI) inflows but no effect on other types of capital flows. Specifically, FDI inflows contract by 11 percentage points in the year before an election compared to non-election periods, or, measured as a share of GDP, FDI contracts by 0.34 percentage points, which is almost a fifth its median value. Furthermore, I find evidence that these cycles are not caused by economic crises related to elections or pre-election manipulation of policy variables. These results suggest that uncertainty about future government policies, which is likely to have greater impact on more irreversible forms of capital flows like FDI, may be an important factor in generating this cycle. Finally, I find that relatively closed capital accounts, few constraints on the executive, and a weak rule of law strengthen the impact of elections on FDI.