Determinants of Capital Flight In The East African Community

Abstract

Capital flight has become an increasing source of concern for policy makers in developing countries, especially since the emergence of the debt crisis and the associated drastic decline in capital inflows from industrialized countries. Given their smaller resource base and limited market, the problem of capital flight justifies a serious attention particularly among East African Economies. The region has lost an immense amount of capital that has led to sluggish regional integration in terms of capital formation and productive capabilities. Albeit most of these countries are in the ranking list of huge volume of capital flight, East Africa has never been considered as a sub- region in the capital related studies. Cognizant of this, the study intends to contribute to this body of knowledge by filling a noticeable gap. The study examined the determinant of capital flight from East African Community countries that includes Kenya, Tanzania, Uganda, Rwanda, and Burundi using a panel data for the year 1988 to 2018 using real gross domestic product, interest rate differential, external debt, corruption index, and exchange rate as explanatory variables. The study was guided by portfolio choice theory that helped to analyze the motive of fleeing capital from developing economies to developed countries. Historical design was employed while descriptive methods were used to show relevance of the information. Secondary data obtained from World Bank, EAC member countries National Bureau of Statistics, International Monetary Fund (IMF), and Transparency Interational Report was used. Levin-Lin-Chu panel unit root test was carried out and capital flight found to be stationary at level and its stationarity was statistically significant. Exchange rate and interest rate differential were also found to be stationary at level and their stationarity was statistically significant. Corruption index, external debt, and real GDP were stationary after first differencing and this was also statistically significant. The fixed effect regression results showed that external debt and exchange rate had a positive and statistically significant effect on capital flight while real GDP had a negative and statistically significant effect on capital flight. As a result, Policy makers should therefore take these factors in to consideration when designing policies to prevent and reduce the outflows of capital from EAC. These policies include a combination of good governance and fostering both fiscal and monetary disciplines. More studies should be carried out to include domestic debt to understand the effect of domestic debt on capital flight