IDEAS home Printed from https://ideas.repec.org/a/eee/jimfin/v128y2022ics0261560622001024.html
   My bibliography  Save this article

Foreign participation in local currency government bond markets in emerging Asia: Benefits and pitfalls to market stability

Author

Listed:
  • Ho, Edmund Ho Cheung

Abstract

With the objective of reducing the problem of currency mismatch, emerging Asian economies have made a concerted effort to develop the local currency government bond (LCGB) markets since the early 2000s. Since then, foreign investors have had a substantial and growing presence in the markets. This paper examines the effects of foreign participation in the LCGB markets on the yield spread. We show that the effect of high foreign participation on market stability is non-monotonic: During tranquil periods, high foreign participation helps reduce yield spread; however, in times of market distress, high foreign participation asymmetrically exacerbates the widening of the yield spread by a larger magnitude. This effect could be due to foreign investors' concerns about currency risk. This is supported by the estimation that yield spread widening during market distress is mainly driven by the currency risk component, but not the credit risk component. Our results underscore the importance of broadening the domestic investor base in the region, and maintaining a manageable exchange rate expectation and central bank credibility.

Suggested Citation

  • Ho, Edmund Ho Cheung, 2022. "Foreign participation in local currency government bond markets in emerging Asia: Benefits and pitfalls to market stability," Journal of International Money and Finance, Elsevier, vol. 128(C).
    • Handle: RePEc:eee:jimfin:v:128:y:2022:i:c:s0261560622001024
    DOI: 10.1016/j.jimonfin.2022.102699
    as

    Download full text from publisher

    File URL: http://www.sciencedirect.com/science/article/pii/S0261560622001024
    Download Restriction: Full text for ScienceDirect subscribers only
    File URL: https://libkey.io/10.1016/j.jimonfin.2022.102699?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Charles Yuji Horioka & Akiko Terada-Hagiwara & Takaaki Nomoto, 2016. "Explaining Foreign Holdings of Asia's Debt Securities: The Feldstein–Horioka Paradox Revisited-super-," Asian Economic Journal, East Asian Economic Association, vol. 30(1), pages 3-24, March.
    2. Robert McCauley & Guorong Jiang, 2004. "Diversifying with Asian local currency bonds," BIS Quarterly Review, Bank for International Settlements, September.
    3. Mr. Shanaka J Peiris, 2010. "Foreign Participation in Emerging Markets’ Local Currency Bond Markets," IMF Working Papers 2010/088, International Monetary Fund.
    4. Qunyong Wang, 2015. "Fixed-effect panel threshold model using Stata," Stata Journal, StataCorp LP, vol. 15(1), pages 121-134, March.
    5. Miyajima, Ken & Mohanty, M.S. & Chan, Tracy, 2015. "Emerging market local currency bonds: Diversification and stability," Emerging Markets Review, Elsevier, vol. 22(C), pages 126-139.
    6. Gerlach, Stefan & Schulz, Alexander & Wolff, Guntram B., 2010. "Banking and sovereign risk in the euro area," Discussion Paper Series 1: Economic Studies 2010,09, Deutsche Bundesbank.
    7. Alexander D. Rothenberg & Francis E. Warnock, 2011. "Sudden Flight and True Sudden Stops," Review of International Economics, Wiley Blackwell, vol. 19(3), pages 509-524, August.
    8. John D. Burger & Francis E. Warnock, 2006. "Local Currency Bond Markets," IMF Staff Papers, Palgrave Macmillan, vol. 53(si), pages 1-7.
    9. Mark M. Spiegel, 2012. "Developing Asian Local Currency Bond Markets: Why and How?," Chapters, in: Masahiro Kawai & David G. Mayes & Peter Morgan (ed.), Implications of the Global Financial Crisis for Financial Reform and Regulation in Asia, chapter 11, Edward Elgar Publishing.
    10. Jae Young Jang & Min Jae Park, 2019. "A Study on Global Investors’ Criteria for Investment in the Local Currency Bond Markets Using AHP Methods: The Case of the Republic of Korea," Risks, MDPI, vol. 7(4), pages 1-20, October.
    11. Liao, Gordon Y., 2020. "Credit migration and covered interest rate parity," Journal of Financial Economics, Elsevier, vol. 138(2), pages 504-525.
    12. Burger, John D. & Warnock, Francis E., 2007. "Foreign participation in local currency bond markets," Review of Financial Economics, Elsevier, vol. 16(3), pages 291-304.
    13. Cyn-Young Park, 2017. "Developing Local Currency Bond Markets in Asia," Emerging Markets Finance and Trade, Taylor & Francis Journals, vol. 53(12), pages 2826-2844, December.
    14. Ebeke, Christian & Lu, Yinqiu, 2015. "Emerging market local currency bond yields and foreign holdings – A fortune or misfortune?," Journal of International Money and Finance, Elsevier, vol. 59(C), pages 203-219.
    15. Guillermo A. Calvo & Ernesto Talvi, 2005. "Sudden Stop, Financial Factors and Economic Collpase in Latin America: Learning from Argentina and Chile," NBER Working Papers 11153, National Bureau of Economic Research, Inc.
    16. Valentina Bruno & Hyun Song Shin, 2015. "Cross-Border Banking and Global Liquidity," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 82(2), pages 535-564.
    17. Alfred Y.-T. Wong & Tom Pak Wing Fong, 2018. "Safehavenness of currencies," The European Journal of Finance, Taylor & Francis Journals, vol. 24(4), pages 300-332, March.
    18. Korinek, Anton, 2018. "Regulating capital flows to emerging markets: An externality view," Journal of International Economics, Elsevier, vol. 111(C), pages 61-80.
    19. Park, Donghyun & Shin, Kwanho & Tian, Shu, 2018. "Do Local Currency Bond Markets Enhance Financial Stability?," ADB Economics Working Paper Series 563, Asian Development Bank.
    20. Guillermo A. Calvo & Alejandro Izquierdo & Ernesto Talvi, 2006. "Sudden Stops and Phoenix Miracles in Emerging Markets," American Economic Review, American Economic Association, vol. 96(2), pages 405-410, May.
    21. Fidora, Michael & Fratzscher, Marcel & Thimann, Christian, 2007. "Home bias in global bond and equity markets: The role of real exchange rate volatility," Journal of International Money and Finance, Elsevier, vol. 26(4), pages 631-655, June.
    22. Philip Turner, 2014. "The global long-term interest rate, financial risks and policy choices in EMEs," BIS Working Papers 441, Bank for International Settlements.
    23. Jasmine Xiao, 2015. "Domestic and Foreign Mutual Funds in Mexico: Do They Behave Differently?," IMF Working Papers 2015/104, International Monetary Fund.
    24. Christensen, Jens H.E. & Fischer, Eric & Shultz, Patrick J., 2021. "Bond flows and liquidity: Do foreigners matter?," Journal of International Money and Finance, Elsevier, vol. 117(C).
    25. Gadanecz, Blaise & Miyajima, Ken & Shu, Chang, 2018. "Emerging market local currency sovereign bond yields: The role of exchange rate risk," International Review of Economics & Finance, Elsevier, vol. 57(C), pages 371-401.
    26. Dubravko Mihaljek & Frank Packer, 2010. "Derivatives in emerging markets," BIS Quarterly Review, Bank for International Settlements, December.
    27. Guorong Jiang & Robert McCauley, 2004. "Asian local currency bond markets," BIS Quarterly Review, Bank for International Settlements, June.
    28. Mr. Serkan Arslanalp & Mr. Takahiro Tsuda, 2014. "Tracking Global Demand for Emerging Market Sovereign Debt," IMF Working Papers 2014/039, International Monetary Fund.
    29. Cepni, Oguzhan & Güney, I.Ethem, 2019. "Local currency bond risk premia: A panel evidence on emerging markets," Emerging Markets Review, Elsevier, vol. 38(C), pages 182-196.
    30. Caporale, Guglielmo Maria & Menla Ali, Faek & Spagnolo, Nicola, 2015. "Exchange rate uncertainty and international portfolio flows: A multivariate GARCH-in-mean approach," Journal of International Money and Finance, Elsevier, vol. 54(C), pages 70-92.
    31. Mr. Christian H Ebeke & Ms. Annette J Kyobe, 2015. "Global Financial Spillovers to Emerging Market Sovereign Bond Markets," IMF Working Papers 2015/141, International Monetary Fund.
    32. Wenxin Du & Jesse Schreger, 2016. "Local Currency Sovereign Risk," Journal of Finance, American Finance Association, vol. 71(3), pages 1027-1070, June.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Hiroya Tanaka & Keiichi Hori & Akihisa Shibata, 2024. "Search-for-Yield and Home Bias under Quantitative Easing," KIER Working Papers 1106, Kyoto University, Institute of Economic Research.
    2. Guilherme Suedekum, 2023. "Local Currency Sovereign Debt Markets, Global Financial Conditions and the Role of Foreign Investors," IHEID Working Papers 19-2023, Economics Section, The Graduate Institute of International Studies.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Agur, Itai & Chan, Melissa & Goswami, Mangal & Sharma, Sunil, 2019. "On international integration of emerging sovereign bond markets," Emerging Markets Review, Elsevier, vol. 38(C), pages 347-363.
    2. Gadanecz, Blaise & Miyajima, Ken & Shu, Chang, 2018. "Emerging market local currency sovereign bond yields: The role of exchange rate risk," International Review of Economics & Finance, Elsevier, vol. 57(C), pages 371-401.
    3. Christensen, Jens H.E. & Fischer, Eric & Shultz, Patrick J., 2021. "Bond flows and liquidity: Do foreigners matter?," Journal of International Money and Finance, Elsevier, vol. 117(C).
    4. Jens H. E. Christensen & Eric Fischer & Patrick Shultz, 2019. "Bond Flows and Liquidity: Do Foreigners Matter?," Working Paper Series 2019-08, Federal Reserve Bank of San Francisco.
    5. Amr Hosny, 2020. "Nonresident holdings of domestic debt in Nigeria: Internal or external driven?," African Development Review, African Development Bank, vol. 32(3), pages 472-485, September.
    6. Kirill Shakhnov & Nicola Borri, 2017. "Limited Arbitrage in the Market for Local Currency Emerging Market Debt," 2017 Meeting Papers 737, Society for Economic Dynamics.
    7. Eiji Fujii, 2024. "Currency concentration in sovereign debt, exchange rate cyclicality, and volatility in consumption," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 160(1), pages 169-192, February.
    8. Huang, Tao & Wu, Fei & Yu, Jing & Zhang, Bohui, 2015. "International political risk and government bond pricing," Journal of Banking & Finance, Elsevier, vol. 55(C), pages 393-405.
    9. Conterius, Simeon & Akimov, Alexandr & Su, Jen-Je & Roca, Eduardo, 2023. "Do foreign investors have a positive impact on the domestic government bonds market? A panel pooled mean group approach," Economic Analysis and Policy, Elsevier, vol. 77(C), pages 863-875.
    10. Fabiani, Andrea & Piñeros, Martha López & Peydró, José-Luis & Soto, Paul E., 2022. "Capital controls, domestic macroprudential policy and the bank lending channel of monetary policy," Journal of International Economics, Elsevier, vol. 139(C).
    11. Park, Donghyun & Taniguchi, Kiyoshi & Tian, Shu, 2019. "Determinants of foreign and domestic investment bias in global bond markets: Some empirical evidence," The North American Journal of Economics and Finance, Elsevier, vol. 49(C), pages 287-303.
    12. Jonathan A. Batten & Warren P. Hogan & Peter G. Szilagyi, 2012. "Foreign Bond Markets and Financial Market Development: International Perspectives," Chapters, in: Masahiro Kawai & David G. Mayes & Peter Morgan (ed.), Implications of the Global Financial Crisis for Financial Reform and Regulation in Asia, chapter 12, Edward Elgar Publishing.
    13. Ogrokhina, Olena & Rodriguez, Cesar M., 2019. "The effect of inflation targeting and financial openness on currency composition of sovereign international debt," Journal of International Money and Finance, Elsevier, vol. 97(C), pages 1-18.
    14. Paul Mizen & Serafeim Tsoukas, 2014. "What promotes greater use of the corporate bond market? A study of the issuance behaviour of firms in Asia," Oxford Economic Papers, Oxford University Press, vol. 66(1), pages 227-253, January.
    15. John Beirne & Nuobu Renzhi & Ulrich Volz, 2024. "Local Currency Bond Markets, Foreign Investor Participation And Capital Flow Volatility In Emerging Asia," The Singapore Economic Review (SER), World Scientific Publishing Co. Pte. Ltd., vol. 69(02), pages 517-541, March.
    16. Renu Kohli & Pravakar Sahoo & M. Shuheb Khan, 2017. "Developing India's Offshore Local Currency Bond Market: Lessons from Emerging Countries," Working Papers id:12039, eSocialSciences.
    17. Masahiro Kawai & David G. Mayes & Peter Morgan (ed.), 2012. "Implications of the Global Financial Crisis for Financial Reform and Regulation in Asia," Books, Edward Elgar Publishing, number 14483.
    18. Ahmad, Wasim & Mishra, Anil V. & Daly, Kevin J., 2018. "Financial connectedness of BRICS and global sovereign bond markets," Emerging Markets Review, Elsevier, vol. 37(C), pages 1-16.
    19. Konopczak, Michal, 2015. "Government debt holdings of non-residents – an analysis of the impact on selected emerging economies’ sovereign risk," MPRA Paper 68597, University Library of Munich, Germany.
    20. Ashima Goyal & Akhilesh K. Verma & Rajeswari Sengupta, 2022. "External shocks, cross-border flows and macroeconomic risks in emerging market economies," Empirical Economics, Springer, vol. 62(5), pages 2111-2148, May.

    More about this item

    Keywords

    Foreign holdings; Emerging markets; Local currency government bond; Yield spread; Exchange rate risk;
    All these keywords.

    JEL classification:

    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data; Spatio-temporal Models

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:eee:jimfin:v:128:y:2022:i:c:s0261560622001024. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Catherine Liu (email available below). General contact details of provider: http://www.elsevier.com/locate/inca/30443 .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.