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Capital Flows and the Risk-Taking Channel of Monetary Policy

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  • Valentina Bruno
  • Hyun Song Shin
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    Abstract

    This paper examines the relationship between low interests maintained by advanced economy central banks and credit booms in emerging economies. In a model with crossborder banking, low funding rates increase credit supply, but the initial shock is amplified through the "risk-taking channel" of monetary policy where greater risk-taking interacts with dampened measured risks that are driven by currency appreciation to create a feedback loop. In an empirical investigation using VAR analysis, we find that expectations of lower short-term rates dampen measured risks and stimulate cross-border banking sector capital flows.

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    Bibliographic Info

    Paper provided by Bank for International Settlements in its series BIS Working Papers with number 400.

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    Length: 57 pages
    Date of creation: Dec 2012
    Date of revision:
    Handle: RePEc:bis:biswps:400

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    Keywords: Capital flows; exchange rate appreciation; credit booms;

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    1. Reinhart, Carmen & Calvo, Guillermo & Leiderman, Leonardo, 1996. "Inflows of capital to developing countries in the 1990s," MPRA Paper 13707, University Library of Munich, Germany.
    2. Bekaert, Geert & Hoerova, Marie & Lo Duca, Marco, 2010. "Risk, Uncertainty and Monetary Policy," CEPR Discussion Papers 8154, C.E.P.R. Discussion Papers.
    3. Claudio Borio & Haibin Zhu, 2008. "Capital regulation, risk-taking and monetary policy: a missing link in the transmission mechanism?," BIS Working Papers 268, Bank for International Settlements.
    4. Luca Dedola & Giovanni Lombardo, 2012. "Financial frictions, financial integration and the international propagation of shocks," Economic Policy, CEPR & CES & MSH, vol. 27(70), pages 319-359, 04.
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