Foreign direct investment and, more recently, short-term debt and portfolio flows have become important parts of private capital flows to Central and Eastern Europe and the former Soviet Union. Private flows have increased in response to reform efforts, the buildup of reserves, and prospective membership in the European Union.
Private capital flows to Central and Eastern Europe and the former Soviet Union have taken off in recent years. Foreign direct investment was the most important such flow from 1991-97, but since 1993 short-term debt and portfolio flows have also been important.
The increase in these potentially more volatile short-term flows raises some questions about sustainability and vulnerability.
Perhaps more than in other developing countries, reform efforts appear to be the most important determinant of private flows to the region. Private flows also have responded positively to the buildup of reserves (a proxy for improvements in perceived creditworthiness) and to prospective membership in the European Union (reflecting greater economic integration with the West and a greater commitment to reform).
Official flows have been associated with the financing of fiscal deficits and appear to have led, rather than followed, countries' reform efforts.
This paper—a joint product of the Economic Policy Division, Poverty Reducation and Economic Management Network; and the Poverty Reduction and Economic Management Sector Unit, Europe and Central Asia Region—was prepared for the National Bureau for Economic Research study, Capital Flows to Emerging Markets, organized by Sebastian Edwards. Copies of this paper are available free from the World Bank, 1818 H Street NW, Washington, DC 20433. Please contact Rose Vo, room MC10-628, telephone 202-473-3722, fax 202-522-2031, Internet address hvo1@worldbank.org. The authors may be contacted at cclaessens@worldbank.org or rpolastri@worldbank.org. (44 pages)
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