Abstract

Short-term foreign capital investment, which started from 1989 and has been in the speculative form, has increased capital inflows leading lower exchange rate (i.e., appreciation of TLs). Thus, the aim of this study is to test of whether changes in FX rate crowds out net export. The argument against government budget deficits is that they crowd out the investment or export sector, by generating upward pressure on interest rates. The Ricardian Equivalence Hypothesis and the Conventional [Keynesian] Open Economy Hypothesis, (COEH), do not agree on the argument, and thus, researchers have sought to choose between these hypotheses. For the period of 1989.I-2003.VI, the results from the impulse response function presented in this paper support the COEH with the following findings. These results indicate that increasing budget deficits raise real interest rates as the Turkish Treasury bids on domestic funds to finance government budget deficits, which in turn attracts foreign short-term capital and results in an appreciation of the domestic currency. In sum, persistent budget deficits have crowded out investment and net exports, despite the effects of capital inflows, which dampen the interest rate impact of deficits.

Key words: Short Run Capital Movements, Crowding-Out Effect, Interest and Foreign Exchange Regimes

Article Language: EnglishTurkish