The impact of the global financial cycle on China's cross-border capital flows

From the global financial cycle (GFC) perspective, this paper investigates the influence of global financial co-movement, triggered by changes of monetary policy in core countries, on China's cross-border capital flows. The study first constructs a mechanism framework to understand how the GFC affects cross-border capital flows within the push-pull framework. Using quarterly data from G7 and BRICs countries spanning 2006 to 2023, this paper builds a dynamic factor model based on Rey's classical GFC theoretical framework to measure the GFC and describes its characteristics across five stages, in conjunction with shift of monetary policy in core countries. Then, the analysis applies the MSVAR model to examine the nonlinear impact of the GFC on China's total cross-border capital flows, total capital inflows, and outflows. Furthermore, the study explores the heterogeneity of the impacts on direct investment, portfolio investment, and other investment. The results indicate that changes of monetary policy in core countries contribute to the formation of the GFC. When conventional monetary policy shifts to unconventional policy, the GFC enters an expansion period; conversely, when it reverts to conventional policy, the GFC enters a contraction period. Overall, the GFC positively affects China's total capital flows, with greater impact during expansion periods than contraction periods. The effect on total capital outflow surpasses that on total capital inflows. Furthermore, direct and portfolio investments demonstrate lower sensitivity to the GFC, whereas other investments, primarily consisting of cross-border bank loans, exhibit a pronounced pro-cyclical pattern with the GFC.