The role of foreign investors in
            debt market development - conceptual frameworks and policy issues
To take full advantage of foreign
            investors, a host country must provide an appealing
            environment: a stable economic and political environment; a
            fair, rational, and, comprehensive legal system; a fair,
            reasonable, and, balanced tax program; a fair, productive,
            and, balanced regulatory system; and transparency in
            economic, financial, legislative, and regulatory systems.
            The country should also liberalize capital account
            transactions. To do so successfully, and minimize risks
            associated with foreign investors, capital account
            liberalization must be properly sequenced. The chief danger
            is removing most restrictions on capital account
            transactions, before addressing major problems in the
            domestic financial system, and hence risking a crisis.
            Typical major problems include shaky, inconsistent
            macroeconomic management; severe asymmetric information
            problems (such as inadequate accounting, auditing, and
            disclosure practices) in the financial, and corporate
            sectors; implicit government guarantees; and inadequate
            prudential supervision, and regulation of domestic financial
            markets, and institutions. Essential infrastructure must be
            developed if domestic debt instruments are to be opened to
            international portfolio investment. Developing countries
            should implement well-synchronized settlement, and
            depository arrangements. The risks from short-term debt -
            which could threaten financial stability - are best through
            sound financial management, and prudential regulation. A
            case could de made for additional policy measures aimed at
            curbing over-reliance on short-term debt. (Chile, Colombia,
            and Israel, for example, have adopted measures to influence
            the level, and composition of portfolio capital inflows).
            Arguably, liberalization of trade in financial services is
            integral to full liberalization of capital markets. Foreign
            firms operating in a domestic market may transfer useful
            technology, and know-how. Concern that hedge funds can
            dominate, or manipulate markets, can be dealt with through
            measures to strengthen supervision, regulation, and market
            transparency - as well as by strengthening reporting
            requirements for larger traders, and positions. The ability
            of hedge funds, and other foreign investors to take
            positions in domestic financial markets, could also be
            limited to: a) Taxing short-term capital flows (as Chile
            does). b) requiring banks, and brokers to raise margin, and
            collateral requirements. c) Limiting financial institutions;
            ability to provide the domestic credit needed to short the
            currency, and their ability to loan the securities needed to
            short equity, and fixed-income markets.