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Capital flows, country risk, and contagion

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  • Fiess, Norbert

Abstract

It has been widely recognized that both country-specific and global factors matter in explaining capital flows. The author presents an empirical framework that disentangles the relative weight of country-specific and global factors in determining capital flows. In essence, his approach first separates the common component of emerging country spreads from their country-specific component. The pure country risk and global risk components are then used as explanatory variables to account for the observed pattern of capital flows using multivariate cointegration analyses. The author is able to identify the relative weight of global and country-specific factors in explaining capital flows to Argentina, Brazil, Mexico, and Venezuela in the 1990s. When further decomposing country risk into its determinants, the author finds that within a small system it is possible to jointly identify the determinants of capital flows and sovereign bond spreads. We find that capital flows are driven by country risk and global factors ("contagion"and U.S. long-term interest rates), while country risk is determined by the primary balance-to-GDP ratio (-) and the ratio of public debt to GDP (+).

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Bibliographic Info

Paper provided by The World Bank in its series Policy Research Working Paper Series with number 2943.

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Date of creation: 31 Jan 2003
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Handle: RePEc:wbk:wbrwps:2943

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Keywords: Economic Theory&Research; Capital Markets and Capital Flows; International Terrorism&Counterterrorism; Banks&Banking Reform; Financial Intermediation; Banks&Banking Reform; Financial Intermediation; Economic Theory&Research; Macroeconomic Management; Environmental Economics&Policies;

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  1. Leonardo Leiderman & Carmen Reinhart & Guillermo Calvo, 1992. "Capital Inflows and Real Exchange Rate Appreciation in Latin America: The Role of External Factors," IMF Working Papers 92/62, International Monetary Fund.
  2. Bremnes, Helge & Gjerde, Oystein & Saettem, Frode, 1997. "A multivariate cointegration analysis of interest rates in the Eurocurrency market," Journal of International Money and Finance, Elsevier, vol. 16(5), pages 767-778, September.
  3. Paolo Mauro & Yishay Yafeh & Nathan Sussman, 2001. "Emerging Market Spreads: Then Versus Now," OFRC Working Papers Series 2001fe03, Oxford Financial Research Centre.
  4. Reinhart, Carmen & Calvo, Guillermo, 2000. "When Capital Inflows Come to a Sudden Stop: Consequences and Policy Options," MPRA Paper 6982, University Library of Munich, Germany.
  5. Alessandro Prati & Francesco Drudi, 1999. "Signaling Fiscal Regime Sustainability," IMF Working Papers 99/86, International Monetary Fund.
  6. Kristin Forbes & Roberto Rigobon, 1999. "No Contagion, Only Interdependence: Measuring Stock Market Co-movements," NBER Working Papers 7267, National Bureau of Economic Research, Inc.
  7. Mody, Ashoka & Taylor, Mark P & Kim, Jung Yeon, 2001. "Modelling Fundamentals for Forecasting Capital Flows to Emerging Markets," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 6(3), pages 201-16, July.
  8. Hendry, David F, 1997. "The Econometrics of Macroeconomic Forecasting," Economic Journal, Royal Economic Society, vol. 107(444), pages 1330-57, September.
  9. Alessandro Missale & Francesco Giavazzi & Pierpaolo Benigno, 1997. "Managing the Public Debt in Fiscal Stabilizations: The Evidence," NBER Working Papers 6311, National Bureau of Economic Research, Inc.
  10. Kasa, Kenneth, 1992. "Common stochastic trends in international stock markets," Journal of Monetary Economics, Elsevier, vol. 29(1), pages 95-124, February.
  11. Steven B. Kamin & K von Kleist, 1999. "The evolution and determinants of emerging markets credit spreads in the 1990s," BIS Working Papers 68, Bank for International Settlements.
  12. Mardi Dungey & Vance L Martin & Adrian R Pagan, 2000. "A multivariate latent factor decomposition of international bond yield spreads," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 15(6), pages 697-715.
  13. Taylor, Mark P & Sarno, Lucio, 1997. "Capital Flows to Developing Countries: Long- and Short-Term Determinants," World Bank Economic Review, World Bank Group, vol. 11(3), pages 451-70, September.
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Citations

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Cited by:
  1. Agosin, Manuel R. & Huaita, Franklin, 2012. "Overreaction in capital flows to emerging markets: Booms and sudden stops," Journal of International Money and Finance, Elsevier, vol. 31(5), pages 1140-1155.
  2. Perry, Guillermo & Serven, Luis, 2003. "The anatomy of a multiple crisis : why was Argentina special and what can we learn from it?," Policy Research Working Paper Series 3081, The World Bank.
  3. Vladimir Kuhl Teles & Maria Carolina Leme, 2010. "Fundamentals or market sentiment: what causes country risk?," Applied Economics, Taylor & Francis Journals, vol. 42(20), pages 2577-2585.
  4. Vladimir Kühl Teles & Maria Carolina da Silva Leme, 2006. "Fundamentals Or Discrimination: What Causes Country Risk?," Anais do XXXIV Encontro Nacional de Economia [Proceedings of the 34th Brazilian Economics Meeting] 60, ANPEC - Associação Nacional dos Centros de Pósgraduação em Economia [Brazilian Association of Graduate Programs in Economics].
  5. Alfonso Mendoza, 2004. "Modelling Long Memory and Risk Premia in Latin American Sovereign Bond Markets," Econometrics 0410004, EconWPA.
  6. Andreas Hauskrecht & Nhan Le, 2005. "Capital Account Liberalization for a Small, Open Economy," Working Papers 2005-13, Indiana University, Kelley School of Business, Department of Business Economics and Public Policy.
  7. San-Martín-Albizuri, Nerea & Rodríguez-Castellanos, Arturo, 2012. "Globalisation And The Unpredictability Of Crisis Episodes: An Empirical Analysis Of Country Risk Indexes / La Imprevisibilidad De Los Episodios De Crisis: Un Análisis Sobre Los Índices De Riesgo Pa�," Investigaciones Europeas de Dirección y Economía de la Empresa (IEDEE), Academia Europea de Dirección y Economía de la Empresa (AEDEM), vol. 18(2), pages 148-155.
  8. Anton Jevcak & Ralph Setzer & Massimo Suardi, 2010. "Determinants of Capital Flows to the New EU Member States Before and During the Financial Crisis," European Economy - Economic Papers 425, Directorate General Economic and Monetary Affairs (DG ECFIN), European Commission.
  9. Christian Wildmann, 2011. "What drives portfolio investments of German banks in emerging capital markets?," Financial Markets and Portfolio Management, Springer, vol. 25(2), pages 197-231, June.
  10. World Bank, 2003. "Brazil : Stability for Growth and Poverty Reduction," World Bank Other Operational Studies 14881, The World Bank.
  11. Wildmann, Christian, 2010. "What drives portfolio investments of German banks in emerging capital markets?," Discussion Paper Series 2: Banking and Financial Studies 2010,04, Deutsche Bundesbank, Research Centre.
  12. Javier Díaz-Cassou & Alicia García-Herrero & Luis Molina, 2006. "What kind of capital flows does the IMF catalyze and when?," Banco de Espa�a Working Papers 0617, Banco de Espa�a.
  13. Franklin Huaita & Manuel Agosín Trumper, 2007. "Why Should Emerging-Market Countries (Still) Concern Themselves With Capital Inflows?," Working Papers wp268, University of Chile, Department of Economics.
  14. Alina Kudina & Oleksandr Lozovyi, 2007. "Determinants of Portfolio Flows into CIS Countries," CASE Network Studies and Analyses 0354, CASE-Center for Social and Economic Research.
  15. Louise Allsopp, 2003. "Speculative behaviour, debt default and contagion: A stylised framework of the Latin American Crisis 2001-2002," Reserve Bank of New Zealand Discussion Paper Series DP2003/10, Reserve Bank of New Zealand.
  16. Sfia, Mohamed Daly, 2007. "Régimes de change: Le chemin vers la flexibilité," MPRA Paper 4085, University Library of Munich, Germany.

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