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Do capital flows respond to risk and return?

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  • Calderon, Cesar
  • Loayza, Norman
  • Serven, Luis

Abstract

This paper explores empirically the role of risk and return in the observed evolution of net foreign asset positions of industrial and developing economies. The paper adopts a dynamic approach in which investors'portfolios adjust gradually to their long-run equilibrium, defined by a standard Tobin-Markowitz framework. The parameters characterizing the long-run equilibrium are estimated using data on foreign assets and liabilities of a large number of industrial and developing countries spanning the period from 1965 to 1997. The paper employs a dynamic panel estimation procedure allowing for unrestricted short-run heterogeneity across countries, using the pooled mean group estimator recently developed by Pesaran, Shin, and Smith (1999). The empirical results lend considerable support to the model when applied to countries with low capital controls and/or high and upper-middle income. The results for countries with either high capital controls or low per capita income are less supportive of the stock equilibrium model for net foreign asset positions.

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Bibliographic Info

Paper provided by The World Bank in its series Policy Research Working Paper Series with number 3059.

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Date of creation: 31 May 2003
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Handle: RePEc:wbk:wbrwps:3059

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Keywords: Economic Theory&Research; Payment Systems&Infrastructure; International Terrorism&Counterterrorism; Fiscal&Monetary Policy; Environmental Economics&Policies; Economic Theory&Research; International Terrorism&Counterterrorism; Environmental Economics&Policies; Health Economics&Finance; Banks&Banking Reform;

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  1. Phillips, Peter C B & Hansen, Bruce E, 1990. "Statistical Inference in Instrumental Variables Regression with I(1) Processes," Review of Economic Studies, Wiley Blackwell, vol. 57(1), pages 99-125, January.
  2. M Pesaran & Yongcheol Shin & Ron P Smith, 2004. "Pooled mean group estimation of dynamic heterogeneous panels," ESE Discussion Papers 16, Edinburgh School of Economics, University of Edinburgh.
  3. Kenneth R. French & James M. Poterba, 1991. "Investor Diversification and International Equity Markets," NBER Working Papers 3609, National Bureau of Economic Research, Inc.
  4. Ghosh, Atish R & Ostry, Jonathan D, 1995. "The Current Account in Developing Countries: A Perspective from the Consumption-Smoothing Approach," World Bank Economic Review, World Bank Group, vol. 9(2), pages 305-33, May.
  5. Karen K. Lewis, 1999. "Trying to Explain Home Bias in Equities and Consumption," Journal of Economic Literature, American Economic Association, vol. 37(2), pages 571-608, June.
  6. Pesaran, M.H. & Shin, Y., 1995. "An Autoregressive Distributed Lag Modelling Approach to Cointegration Analysis," Cambridge Working Papers in Economics 9514, Faculty of Economics, University of Cambridge.
  7. Catherine L. Mann, 2002. "Perspectives on the U.S. Current Account Deficit and Sustainability," Journal of Economic Perspectives, American Economic Association, vol. 16(3), pages 131-152, Summer.
  8. John Y. Campbell & Pierre Perron, 1991. "Pitfalls and Opportunities: What Macroeconomists Should Know About Unit Roots," NBER Chapters, in: NBER Macroeconomics Annual 1991, Volume 6, pages 141-220 National Bureau of Economic Research, Inc.
  9. Kraay, Aart & Ventura, Jaume, 1997. "Current accounts in debtor and creditor countries," Policy Research Working Paper Series 1825, The World Bank.
  10. Pesaran, M.H., 1996. "The Role of Economic Theory in Modelling the Long Run," Cambridge Working Papers in Economics 9612, Faculty of Economics, University of Cambridge.
  11. Aart Kraay & Norman Loayza & Luis Servén & Jaume Ventura, 2000. "Country portfolios," Economics Working Papers 913, Department of Economics and Business, Universitat Pompeu Fabra.
  12. Milesi-Ferretti, Gian Maria & Razin, Assaf, 1996. "Current Account Sustainability: Selected East Asian and Latin American Experiences," CEPR Discussion Papers 1509, C.E.P.R. Discussion Papers.
  13. Easterly, William & Kraay, Aart, 1999. "Small states, small problems?," Policy Research Working Paper Series 2139, The World Bank.
  14. M. Hashem Pesaran & Yongcheol Shin & Richard J. Smith, 2001. "Bounds testing approaches to the analysis of level relationships," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 16(3), pages 289-326.
  15. Ricardo J. Caballero, 1997. "Aggregate Investment," NBER Working Papers 6264, National Bureau of Economic Research, Inc.
  16. M. Hashem Pesaran & Yongcheol Shin, 2002. "Long-Run Structural Modelling," Econometric Reviews, Taylor & Francis Journals, vol. 21(1), pages 49-87.
  17. Philip Lane & Gian Maria Milesi-Ferretti, 2001. "THE EXTERNAL WEALTH OF NATIONS: Measures of Foreign Assets and Liabilities For Industrial and Developing Countries," Trinity Economics Papers 20014, Trinity College Dublin, Department of Economics.
  18. Donald Robertson & James Symons, 1991. "Some Strange Properties of Panel Data Estimators," CEP Discussion Papers dp0044, Centre for Economic Performance, LSE.
  19. Pesaran, H. & Smith, R. & Im, K.S., 1995. "Dynamic Linear Models for Heterogeneous Panels," Cambridge Working Papers in Economics 9503, Faculty of Economics, University of Cambridge.
  20. Pesaran, M. Hashem & Smith, Ron, 1995. "Estimating long-run relationships from dynamic heterogeneous panels," Journal of Econometrics, Elsevier, vol. 68(1), pages 79-113, July.
  21. R. C. Merton, 1970. "Optimum Consumption and Portfolio Rules in a Continuous-time Model," Working papers 58, Massachusetts Institute of Technology (MIT), Department of Economics.
  22. Hsiao, Cheng, 1997. "Statistical Properties of the Two-Stage Least Squares Estimator under Cointegration," Review of Economic Studies, Wiley Blackwell, vol. 64(3), pages 385-98, July.
  23. Catherine A. Pattillo & Andrew Berg, 1998. "Are Currency Crises Predictable? A Test," IMF Working Papers 98/154, International Monetary Fund.
  24. Philippe Bacchetta & Eric van Wincoop, 1998. "Capital Flows to Emerging Markets: Liberalization, Overshooting, and Volatility," NBER Working Papers 6530, National Bureau of Economic Research, Inc.
  25. Tesar, Linda L. & Werner, Ingrid M., 1995. "Home bias and high turnover," Journal of International Money and Finance, Elsevier, vol. 14(4), pages 467-492, August.
  26. Arulampalam, W. & Robin A. Naylor & Jeremy P. Smith, 2002. "University of Warwick," Royal Economic Society Annual Conference 2002 9, Royal Economic Society.
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Citations

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Cited by:
  1. Calderon, Cesar & Loayza, Norman & Serven, Luis, 2004. "Greenfield foreign direct investment and mergers and acquisitions - feedback and macroeconomic effects," Policy Research Working Paper Series 3192, The World Bank.
  2. Dollar, David & Kraay, Aart, 2006. "Neither a borrower nor a lender: Does China's zero net foreign asset position make economic sense?," Journal of Monetary Economics, Elsevier, vol. 53(5), pages 943-971, July.
  3. Daniel Lederman & William F. Maloney & Luis Servén, 2004. "Lessons from NAFTA for Latin America and the Caribbean," World Bank Publications, The World Bank, number 14457, January.
  4. Norman Loayza & Pablo Fajnzylber & César Calderón, 2004. "Economic Growth in Latin America and The Caribbean: Stylized Facts, Explanations, and Forecasts," Working Papers Central Bank of Chile 265, Central Bank of Chile.

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