A portfolio model of capital flows to emerging markets

Since the crises of the late 1990's, most emerging market economies have built up substantial positive holdings of US dollar treasury bills, while at the same time experiencing a boom in FDI capital inflows. This paper develops a DSGE model of the interaction between an emerging market economy and an advanced economy which incorporates two-way capital flows between the economies. The novel aspect of the paper is to make use of new methods for analyzing portfolio choice in DSGE models. We compare a range of alternative financial market structures, in each case computing equilibrium portfolios. We find that an asymmetric configuration where the emerging economy holds nominal bonds and issues claims on capital (FDI) can achieve a considerable degree of international risk-sharing. This risk-sharing can be enhanced by a more stable monetary policy in the advanced economy.     

Determinants of capital flows to emerging and advanced economies between 1990 and 2011

The previous and latest crises confirmed that stability of external financing of the economy is determined not only by the volume of capital inflow but also by its structure. It is established that a bias in gross external liabilities towards debt, especially short-term, may rise vulnerability to financial crises. Greater share of equity capital, mainly direct investment is not found to bear such financial risk. The results of Bayesian Model Averaging (BMA) show that influence of variables inherent in macroeconomic and portfolio approaches varies depending on the type of capital inflow and the group of countries. We also find some arguments that equity investment is a more desirable form of foreign capital because debt inflows are more responsive to global factors and therefore more volatile. As a word of caution, we highlight the need for diversification and careful monitoring of external financing sources and forms.     

Managerial ability and capital flows

Capital flows with low intensity and flows to middle-income countries. Physical and human capital alone cannot explain this pattern. I present a model to show how managerial ability—the ability to run risky projects—can increase total factor productivity and explain the pattern of capital flows. The model implies that countries with more high-ability managers use more risky projects and have higher productivity. I define proxies for managerial ability with data on physical and human capital, schooling, and entrepreneurship. Consistent with the pattern of capital flows, the model predicts similar returns to capital across countries and higher returns in middle-income countries.     

Does Europe need neoliberal reforms?

This paper examines the neoliberal claim that the only way toachieve sustainable growth and full employment is to abandonKeynesian macroeconomic management and the welfare state andbring back ‘flexible labour market policies’. Itsummarises the conditions required for neoliberal policies toproduce such an outcome and their relevance to contemporaryeconomic, social and political realities. This is followed byan empirical comparison of the economic performance and socialwell-being of seven advanced economies, widely regarded as leadingproponents of the three models of capitalism: liberal, corporatistand social democratic. Contrary to the claim, the model thatperforms best is the one that has least in common with the neoliberaleconomic orthodoxy – a conclusion that is likely to beof particular relevance in the present century.     

A new approach to capital flows: Theory and evidence

This paper examines how an open economy determines its financial openness and deals with volatile capital flows when deciding to utilize them for output growth. We find that higher economic instability is an inevitable price paid for faster growth if a country permits wider openness without reversing its financial vulnerability. We prove that the country can leave its capital market wider open to achieve higher growth and lower instability if its financial system has been strengthened substantially. We show why some financially advanced countries request reluctant developing countries to liberalize their immature markets and how the conflict of interest between the two parties is formulated. The paper also presents a large sample of cross-country experiences with tradeoffs between growth and instability, with the observed evidence supporting our theoretical predictions.     

Capital flows to an emerging financial market in Turkey

Increased globalization in financial markets implies that the percentage of all shares under foreign ownership in domestic stock markets has been rising. Speculative attacks on the foreign exchange market in February 2001 led to deep economic crisis in Turkey. This article will explore various indicators of the financial crisis in Turkey based on a macro-model. The foreign share of the domestic economy is a key variable to establish the degree of vulnerability during a financial crisis. An empirical investigation shows that the percentage of shares owned by foreigners on the Istanbul Stock Exchange (ISE) has been increasing since 1995 and is currently about 50 percent of the total. Furthermore, the general index of stock market prices in 1999 was at its highest level since 1995. This would imply that the general price index of the stock market is another strong indicator of an impending financial crisis. An empirical investigation of Turkish data based on a theoretical model is presented in this paper. An unexpected capital outflow would certainly cause exchange rate fluctuations, balance of payments problems, and international debt crisis. Hot money inflows boost share prices and keep the real exchange rate high. However, short-term stay of capital implies a sudden capital outflow that creates financial crisis, which results in international debt crisis. This in turn leads to a further increase in loans from the International Monetary Fund (IMF). Relatively high stock market prices may suggest an impending financial crisis. Using Turkish stock market price data, an impending financial crisis can be statistically predicted.     

Financial reforms,product differentiation,and trade

We hypothesize that exports of differentiated products, which entail greater upfront costs, increase more as financial reforms take place. We find strong and robust empirical support of this hypothesis with a comprehensive set of measures of reforms encompassing the banking sector, interest rates, equity and international capital markets.     

Intersectoral capital flows: Evidence from Kenya

Evidence is presented for a large net capital outflow from the agricultural sector in Kenya between 1964 and 1972, increasing over the period. The financial and structural shifts underlying this flow are examined and interpreted. Because of the fragmented financial system in Kenya, most of the funds were not mobilized in a form readily available for re-investment in agriculture or elsewhere in the economy.     

Taxing capital flows: an empirical comparative analysis

Recent studies have analysed the impact of capital account opening on income growth, implicitly assuming that the various forms of foreign savings have similar effects. In fact, theoretical considerations suggest that the individual components of private capital inflows have different effects on growth. This paper analyses the link between income growth and private capital inflows. It presents system GMM estimates with annual observations from 1985 to 1996 for 72 countries. When full-sample results are checked for country and period changes, most of capital inflow series lose their ability to explain income growth. Bank flows stand as the sole source of foreign financing that displays a positive and robust correlation with growth.     

Pressure to adjust: Consequences for the OECD countries from reforms in eastern Europe

The opening of the formerly planned economies to the world has not only profound consequences for these central and eastern European economies. There are also substantial effects on the economies of western Europe, resulting from enhanced price competition in product markets, migration and capital flows. The macroeconomic effects and adjustment requirements in the OECD countries are fundamentally determined by the two central, but not mutually exclusive growth options for the reform countries, which are analysed in the paper: the option of an import-led growth in eastern Europe, resulting from capital transfers from the West in order to asist the modernisation and investment process in the East, and the option of an export-led growth, allowing for unrestricted entering of western markets and imitating the experience of south-east Asian economies. The estimated magnitudes and likely economic effects speak in favour of the export-led growth option, but under both options the governments in the West are challenged.     

Inside Europe: human capital and economic growth revisited

This paper investigates the impact of human capital on the process of innovation and technology catch-up in European Union countries. Based on the framework proposed by Benhabib and Spiegel (in: Aghion and Durlauf (eds) Handbook of economic growth, 1A, North-Holland, Amsterdam, 2005), a panel data model is estimated from 1950 to 2011 using the improved total factor productivity and human capital variables included in PWT 8.0. Following Vandenbussche et al. (J Econ Growth 11(2):97–127, 2006) we also analyse the differential impact of skilled and unskilled human capital on growth. The empirical analysis applies instrumental variables panel data methods which resolve the endogeneity bias. Our results show robust evidence of the significant direct and indirect effects of human capital on the process of total factor productivity (TFP henceforth) growth in euro area countries. When we analyse the impact of different kinds of human capital on different ways of increasing TFP we conclude that, regardless of academic level, the quantity of unskilled human capital boosts imitation in EU countries while, by contrast, highly qualified human capital is essential for growth through innovation.     

Demographic trends and international capital flows in an integrated world

This paper examines the impact of projected demographic trends on international capital flows. The analysis builds upon a ten-region overlapping generations' model of the world economy where capital is mobile across regions. Results show that, over the first half of the century, emerging regions will finance the demand of capital coming from the developed world where population aging is relatively advanced. In particular, the findings suggest that in the coming decades China will be the world's main creditor region. However, in the second half of the century, India will take over this leading position because of the predicted decline in the Chinese labor force. An additional analysis demonstrates that the economic consequences of demographic changes depend on the degree of capital market integration between regions.     

International capital flows and convergence in the neoclassical growth model

To analyze how capital mobility affects economic growth and convergence, this paper will use the analytical solution to the neoclassical growth model with a constant saving rate, beginning with the closed-economy Solow growth model. An introduction to international capital flows will follow. In an open economy, free capital mobility assures an instantaneous convergence in interest rates that, under a perfect competence situation, implies the instantaneous convergence in income levels among homogeneous countries. Taking into account this question and to reconcile these results with empirical evidence, that is, with the gradual convergence observed, the assumption is introduced that in spite of free capital mobility, there are international credit restrictions. In this case, we will show how the rate of convergence depends on the international capital inflows received. The authors would like to thank Maria Isabel Abradelo for her help in translating this paper.