Fire-Sale FDI and Liquidity Crises

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Abstract
In placing capital market imperfections at the center of emerging market crises, the theoretical literature has associated a liquidity crisis with low foreign investment and the exit of investors from the crisis economy. However, a liquidity crisis is equally consistent with an inflow of foreign capital in the form of mergers and acquisitions (M&A). To support this hypothesis, we use a firm-level dataset to show that foreign acquisitions increased by 88% in East Asia between 1996 and 1998, while intra-national merger activity declined. Firm liquidity plays a significant and sizeable role in explaining both the increase in foreign acquisitions and the decline in the price of acquisitions during the crisis. This effect is most prominent in the tradable sectors and represents a significant departure from the pattern of M&A observed both before and after the crisis. Quantitatively, the observed decline in liquidity can explain nearly 30% of the increase in foreign acquisition activity in the tradable sectors. We argue that the nature of M&A activity during the crisis contradicts productivity-based explanations of the East Asian crisis.

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