Role of capital flight as a driver of sovereign bond spreads in Latin American countries

The Latin American region has experienced many interdependent issues such as financial crises, unsustainable sovereign spreads, sudden stops in capital flows, capital flight and growth rate collapse. This study focuses on identifying the drivers of sovereign bond spreads by focusing on the role of capital flight. It is worthy to note that no prior study has explicitly examined this relationship. Using data on eight Latin American countries during the period 1993–2015 and based on dynamic heterogeneous panel regression as a panel-ARDL model and the Pooled Mean Group (PMG) estimator, important outcomes are found out. First, in the long-run, sovereign bond spreads are influenced by the countries’ local fundamentals as well as global factors, whereas in the short-run it is mainly the global factors that can be identified as drivers. Second, the capital flight, which is the variable of interest, shows a positive effect on sovereign bond spreads. Indeed, in order to strengthen their debt repayment ability, Latin American countries are presumably called upon to curb and prevent the capital flight. This requires implementing various strategies which range from establishing efficient judicial and political institutions to growth-boosting through controlling the macroeconomic factors.