亚开行-美联储紧缩与新兴市场资本流动逆转：我们知道什么

FedTighteningandCapitalFlowReversalsinEmergingMarkets

NO.242

FEBRUARY

2023

ADBBRIEFS

KEYPOINTS

•Aggressivehikesin

UnitedStatespolicyrateshaveraisedconcernsofcapitalreversalsfromAsianemergingmarkets.

•Ahigherlevelofoutstandingandshort-termexternaldebtcontributestofasterpropagationofcapital-flowdisturbances.

•Banklendingisstronglyaffectedbyglobalfinancialfactors.Regulationsoninternationalbanksaftertheglobalfinancialcrisisof2007–2008mayhavepartlymitigatedthisrisk,butcashflowvolatilitymaybeboostedbynewlyemergedchannels—includingbenchmarkinvestmentfunds.

•Vulnerableeconomiesshouldspeedupnecessaryreformsandrestoremacroeconomicfundamentals.

•Sincestructuralreformsmay

taketimetomaterialize,measuressuchasforeignexchangeinterventionandcapitalflowmanagementmaybeusefulintheshortterm.However,itisimportantforpolicymakerstodisplayconcreteandcrediblecommitmenttosoundlong-termmacroeconomicobjectives.

ISBN978-92-9270-039-3(print)ISBN978-92-9270-040-9(electronic)ISSN2071-7202(print)

ISSN2218-2675(electronic)

PublicationStockNo.BRF230046

DOI:

/10.22617/

BRF230046

FedTighteningandCapitalFlow

ReversalsinEmergingMarkets:

WhatDoWeKnow?

MatteoLanzafame

SeniorEconomistMacroeconomicsResearchDivisionERCD,ADB

IrfanA.Qureshi

Economist

MacroeconomicsResearchDivisionERCD,ADB

YuhoMyoda

Economist

MacroeconomicsResearchDivision

EconomicResearchandRegional

CooperationDepartment(ERCD)

AsianDevelopmentBank(ADB)

AstheUnitedStatesFederalReservecontinuesitsaggressivehikesininterestrates,economiesindevelopingAsiaandelsewherehaveenteredanewperiodoffinancialandcapitalflowvolatility.Thisraisescomplexchallengesandtrade-offsforpolicymakersthatrequirecarefulinvestigation.Thispolicybriefprovidesashortoverviewoftheeconomicliteratureoncapitalflowreversalsinemergingeconomies,theirdrivers,andtheavailablepolicytoolstoaddressthem.

INTRODUCTION

Followingdecadesofpricestability,advancedeconomiesareagainexperiencinghighinflationarypressures.Supplychaindisruptions—firststemmingfromthecoronavirusdisease(COVID-19)pandemicandthenfromtheRussianinvasionofUkraine—combinedwithmassivedemand-sidestimulushaveledtoincreasinglybroadeningpricerises.TheUnitedStates(US)FederalReserve(Fed)belatedlyrespondedbyembarkingonthemostaggressivepolicyratehikingcyclein40years(Figure1).TheFedwasfollowedbytheEuropeanCentralBankandothercentralbanksinadvancedeconomies.Monetaryauthoritiesinemergingeconomieshavefollowedsuitandtightenedmonetarypolicytotamedomesticpricepressuresandtopreventpossiblesuddenstopsofcapitalflowsorstemtheirreversals.Thistriggeredcomplextrade-offsandchallengingmacroeconomicconcerns.

Note:ADBrecognizes“Russia”astheRussianFederation.

2

ADBBRIEFSNO.242

Figure1:FederalFundsEffectiveRate(%pointchangefrominitialmonthoftightening)

%point

76 54 32 10–1–2

t=0t+1t+2t+3t+4t+5t+6t+7t+8t+9t+10t+11t+12

Aug-79Mar-83Mar-88Feb-94

Jun-99Jun-04Dec-15Mar-22

Note:DatesarethemonthwhentheUnitedStatesFederalReservestartedtightening.t=0indicatestheinitialmonthoftighteningforeverytighteningcycle(i.e.,Aug-79,Mar-83andsoon).

Source:Tighteningepisodesandtheirstartingdates,exceptfor“Volcker’stightening”startedinAugust1979aredefinedfollowingKliesen,K.L.2022.“

ALookatFedTighteningEpisodessincethe1980s:PartI

.”OntheEconomyBlog.FederalReserveBankofSt.Louis.

Whilethepaceofthecurrentcycleisoutoftheordinary,historicprecedentsofaggressiveFedtighteningaboundandprovideinsightsintothepossibleconsequences.IntheMexicanpesocrisisofthe1990s,interestrateincreasesintheUSpromptedmassivecapitaloutflowsfromMexico.Despitesubstantialforeignexchange(FX)rateinterventions,theMexicancentralbankcouldnotdefendthecurrencypeg,andMexicoeventuallyshiftedtoafree-floatingexchangeratesystem.TheresultingsharpdepreciationintheMexicanpesoinflatedtheburdenofexternaldebts,leadingtoasovereigndefault.DuringtheAsianfinancialcrisisof1997–1998,eventsinThailandfollowedthesamepattern,andthecountryalsoendedupadoptingafree-floatingexchangerate.Outofthesetwopainfulcrisesarosetheconceptoftheinternationalfinancialtrilemma:thenotionthatmonetarypolicyautonomy,freedomofinternationalcapitalmovement,andafixedexchangeratesystemcannotbeachievedsimultaneously(ObstfeldandTaylor1997).

Followingthe1990scrises,manycountriesincreasinglyoptedformoreflexibleexchangerateregimes,choosingtoeasethetensionsintegraltothetrilemmabygivingupexchangeratepegs.Theyalsobolsteredtheirmonetarypolicycredibilitybyoptingformoreindependentcentralbanksandprudentfiscalmanagement.Buttheglobalfinancialcrisisof2008–2009againcausedsubstantialcapitaloutflowsfromandfinancialinstabilityinemergingmarkets,givingrisetotheviewthattheseeconomiesfacenotatrilemmabutadilemma—thatis,atrade-offbetweenfreeinternationalcapitalmobilityandmonetarypolicyautonomy(Rey2015).Accordingtothedilemmahypothesis,globalcredit

cyclesaregeneratedbymonetarypoliciesintheadvancedeconomiesandtransmittedtoemergingmarketsregardlessoftheircurrencyregimes.Agrowingconsensushasformedthatglobalfinancialintegrationworsenedthetrade-offsfacedbyemergingeconomiesbymakingitmoredifficulttoinsulatethedomesticeconomy,policies,andmarketsfromexternalshocks(Obstfeld2015).

Internationalcollectiveeffortshavebeeneffectiveinmitigatingtheriskofinternationalcapitalflowsunderminingfinancialstability.However,thissuccessmay,tosomeextent,beadouble-edgedsword.Byfosteringasaferinvestmentenvironment,theseriskmitigationpoliciescontributedtoariseininvestmentfundflowstoemergingmarketsinthe2000s,whichseemstohaveopenedanewchannelforthetransmissionofglobalshocks(Arslanalpetal.2020).ThesubstantialcapitaloutflowsrecordedinemergingmarketsintheearlyphaseoftheCOVID-19pandemicsupportthisview(Figure2).Ampleliquidityprovidedbyadvancedeconomies’centralbankscontributedtostabilizingtheoutflowsquickly(BIS2021),buttovaryingdegreesacrosseconomiesasinvestorsbecamemoreselectiveinallocatingassets,leadingtomoreheterogenouscapitalflowdynamicsinemergingmarkets.DevelopingAsiawasnoexception.Netportfolioflowstotheregionbecamenegativeinthefirstquarterof2020andthenquicklyrevertedtopositiveinthesecondquarter.

Withsuchvulnerabilitiesasachallengingoutlookinthe

People’sRepublicofChina,limitedfiscalspaceasalegacyofthepandemic,currentaccountbalancesworsenedbyhighcommodityprices,andrisinginflation,theFed’songoingmonetarytighteningmayonceagainpromptcapitalreversalsinemergingmarkets.Maintainingsoundmacroeconomicfundamentalsisespeciallyimportantwhenfinancialmarketconditionstighten.Anappropriatemixofshort-termpolicymeasurescanalsohelpsecuremoretimetoaddressstructuralissuesbutcaninsulatetheeconomyforalimitedperiodatbest.Asreformstaketimetoachievetheirgoals,policymakersinvulnerableeconomiesneedtocommitfirmlyandcrediblytotacklingtherootissuesoftheimbalanceswithoutdelay.

CAPITALFLOWREVERSALSINEMERGINGMARKETS:DRIVERS,CHANNELS,ANDCONSEQUENCES

Thedeterminantsofcapitalflowsaretraditionallyclassifiedintopush(external)andpull(internal)factors(e.g.,Calvo,Leiderman,andReinhart1996)(Table1).Theimpactofthesefactorsvariesdependingonthetypeofcapitalflows(BIS2021).Pushfactorsdetermineinvestors’willingnesstoinvestinforeignmarketsandtypicallyincludegloballiquidityandeconomicconditions,investors’riskappetite,commodityprices,andotheridiosyncraticfactorsaffectingworldfinancialmarkets.Pullfactorsarethosethatattractinternationalcapitaltodifferentlocalmarketsandarespecifictothehosteconomy—includingeconomicgrowth,fiscaldeficits,institutionalquality,andtheleveloflocalfinancial

3

FedTighteningandCapitalFlowReversalsinEmergingMarkets

2007Q1

2007Q4

2008Q3

2009Q2

2010Q1

2010Q4

2011Q3

2012Q2

20137Q1

2013Q4

2014Q3

2015Q2

2016Q1

2016Q4

2017Q3

2018Q2

2019Q1

2019Q4

2020Q3

2021Q2

2022Q1

20015010050

0 –50–100–150–200

–250

Figure2:NetCapitalFlowsinSelectedDevelopingAsianEconomies

USDbillion

Tapertantrum

Europeansovereigndebtcrisis

Fedtapering

Fedtightening

Globalfinancialcrisis

FDIPortfolioOthersTotal

FDI=foreigndirectinvestment,Fed=UnitedStatesFederalReserve,Q=quarter,USD=UnitedStatesdollar.

Note:EconomiesincludeHongKong,China;India;Indonesia;thePeople’sRepublicofChina;thePhilippines;theRepublicofKorea;Singapore;Taipei,China;andThailand.

Source:HaverAnalytics.

Table1:ClassificationofCapitalFlowDrivers

PushFactors

PullFactors

Cyclical

GloballiquidityInternationalinvestors’

riskappetite

GlobaleconomicgrowthCommoditypricesThestrengthofthe

UnitedStatesdollar

Monetarypoliciesin

globalfinancialcenters

DomesticoutputgrowthFiscaldeficits

ForeigndebtratiosAssetreturnindicatorsCountryriskindicators

Structural

Riseofinstitutional

investors

PortfoliodiversificationInformationand

communication

technology

People’sRepublicofChina’sglobaleconomicfootprint

InstitutionalqualityCapitalaccountopennessLocalfinancialmarket

developmentOutstandingsovereign

debt

TradeopennessTheexchangerateregimeForeignreserves

Roleofgovernmentin

theeconomy

Source:Authors,basedonKoepke,R.2019.WhatDrivesCapitalFlowstoEmergingMarkets?ASurveyoftheEmpiricalLiterature.JournalofEconomicSurveys.33(2):516–

540,and

BankforInternationalSettlements(BIS).2021.ChangingPatternsofCapitalFlows.CGFSPapers.No.66.Basel,Switzerland.

development.Bothpushandpullfactorshavestructuralandcyclicalcharacteristics.Thechannelsofcapitalflowscanbeclassifiedaccordingtothesourceoffunds(e.g.,internationalbanks,institutionalinvestors,andinvestmentfunds)orthenatureoffunds(e.g.,bankloans,portfolioinvestments,anddirectinvestments).

Empiricalstudiesshowthatpushfactorsoftentriggerrapidchangesincapitalflowstoemergingmarkets(ForbesandWarnock2012;EichengreenandGupta2016;Ghosh,Ostry,andQureshi2016;BIS2021).Themostimportantpushfactorsarechangesinmonetarypolicyinadvancedeconomiesandglobalriskaversion,whiletheUSdollarexchangerate,commodityprices,andthesizeofcarrytradesalsoplayanimportantrole(BIS2021).1

Thesefactorscanexertanimpactoncapitalinflowstoemergingeconomiesviaavarietyofchannels.Otherthingsbeingequal,interestrateincreasesinadvancedeconomiesmakefinancialinvestmentinemergingmarkets’assetsrelativelylessprofitable,thusreducingcapitalinflowsfromadvancedeconomies—inparticular,portfolioinvestmentsdrivingcarrytrade.Theresultingcapitalflowreversalputsdownwardpressureonemergingmarkets’exchangerates,asforeigninvestorsselltheseeconomies’

assetsandconverttheproceedsintoUSdollarsforrepatriation.However,somestudiesfindthattheFed’sinterestratehikeitselfwillnotdirectlycausedepreciationinAsianemerging-marketcurrencies(Parketal.2020).

1Acarrytrade(orcurrencycarrytrade)isatradingstrategywhereaninvestorborrowsinlow-interestcurrencyandinvestsinassetsofhigheryieldcurrencies.

4

ADBBRIEFSNO.242

Totheextentthatdebtisdenominatedinaforeigncurrency—typically,theUSdollar—currencydepreciationsalsoincreasethedebtburdenofemergingmarkets,squeezingtheircapacitytoborrow.Compoundingthiseffect,asdefaultriskincreasesandtheUSdollarvalueofcollateralforemergingmarketassetsdrops,internationalbanksandotherlendersreducecreditprovision(BrunoandShin2015).Theadjustmentthroughdepreciationandcapitaloutflowscontinuesuntiltheemerging-marketcurrencyweakensenoughtooffsettheinterestratedifferentialwithadvancedeconomies.Thisishowafree-floatingexchangerateregimeactsasashockabsorber.Butevenforminorinterestratehikesinadvancedeconomies,thenecessaryadjustmentinemergingcurrenciesmayrequireaconsiderabledepreciation,thusimposinghighcostsontherealeconomyandsocialwelfare(FarhiandWerning2014).

Capitaloutflowsandcurrencydepreciationscanalsocauseafiscaldeteriorationbyinflatingthegovernment’sdebtservicingcosts.Foreconomiescharacterizedbyalowpriceelasticityofimports,exchangeratedepreciationcanalsoleadtoaworseningtradebalance,atleastintheshortterm.Withthecapitalaccountalreadyunderpressurefromoutflows,bothfiscalandcurrentaccountbalancedeteriorationsmayquicklyleadtofallinginternationalcurrencyreservesandarisingriskofbalanceofpaymentscrises.Asthesemechanismsmayquicklydriveaneconomyintoacrisis,maintainingstrongmacroeconomicconditionsandpolicybuffersiscrucialtominimizetheriskofcapitalreversalsandsecureroomforpolicyresponses.

WHATARETHEFACTORSTOWATCHTOAVOIDCRISES?

Manyempiricalstudiesarguethatpullfactorsactasamplifiersofcapitaloutflowsandtheireconomicimpacts,evenifthesearetriggeredbypushfactors(Fratzscher2012;Ahmed,Coulibaly,andZlate2017;Eller,Huber,andSchuberth2020;BIS2021).Researchshowsthattheeffectsvaryovertimeanddependoneconomicandinvestorsentimentconditions.Pullfactorsaffectinvestors’decisionsoncapitalflowsmoresignificantlywhentensionsinfinancialmarketsarerisingbuthaveyettoresultinafull-blowncrisis(LoDuca2012).

Structuralfactors,suchasthelevelofdevelopmentofdomesticfinancialmarkets,tradeopenness,theexchangerateregime,grossFXreserves,andimportcoverage,aretypicallyconsideredtobeimportantdriversofforeigncapitalflowsinthelongrun.Inthisrespect,capitalaccountliberalizationisthemostsignificantreform,andseveralstudiesconfirmeditspositiveimpactsoncapitalinflows(Bekaert,Harvey,andLumsdaine2002).However,sincethesestructuralfeaturesvaryslowlyovertime,gatheringrobustempiricalevidenceontheireffectsischallenging.Asaresult,researchershavefocusedprimarilyontherelationshipbetweencyclicalfactorsandmorevolatilecapitalflows,suchasportfolioorbanklendingflows(Koepke2019,Hannan2017).

Severalempiricalstudiesindicatethatdifferencesinthestrengthofeconomicfundamentals—e.g.,economicgrowthperformanceandcurrentaccounttogrossdomesticproduct(GDP)ratios—areassociatedwithheterogenouseffectsofexternalshocksoncapitalflowstoemergingmarkets.Thisfindingappliesespeciallytotheyearsfollowingtheglobalfinancialcrisis(Bowman,Londono,andSapriza2015;Ahmed,Coulibaly,andZlate2017)andtovariousdegreesacrossdifferenttypesofcapitalflows(Cerutti,Claessens,andPuy2019).Thissuggeststhatpolicymakersarebetterofffocusingonthegeneraltaskofbuildingandmaintainingrobusteconomicfundamentalsandastablemacroeconomicenvironment,ratherthanonanyindividualdriverofcapitalflows.

Thatsaid,empiricalresearchdoesindicatethatsomemacroeconomicfundamentalsplayaparticularlyrelevantrole(Table2).Ahigherlevelofoutstandingexternaldebt,forinstance,isassociatedwithepisodesofcapitalflowreversals(Avdjiev,Binder,andSousa2021).Itseffectsdependonseveralfeatures,includingcurrencycomposition,debtmaturity,lenders’character(bankornonbankcorporate),andtheshareofbondissuanceinrelationtolending.Thisisbecauseforeigncurrency-denominateddebtworsenstherealburdenofrepaymentsinthepresenceofexchangeratedepreciation.Meanwhile,forshort-maturitydebt,interestrateincreasesaretypicallyveryquicklyreflectedinrisingrefinancingrates.Assuch,forthesamedebtlevel,ahighershareofforeigncurrencydebtorshort-maturitydebtwillcontributetoafasterpropagationofexternalshockstothedomesticfinancialmarket.Indeed,theevolutionofmanypastfinancialcrisesisassociatedwithcurrencyormaturitydiscrepanciesonthebalancesheets(RodrikandVelasco1999).

FollowingtheAsianfinancialcrisis,whichshowedtherisksassociatedwithhighdependencyondollarlendingandtheinabilitytoborrowinlocalcurrencies(theso-called“originalsin”),emergingeconomieshavestrivedtoincreasetheratiooffundsraisedinthelocalcurrency(Eichengreen,Hausmann,andPanizza

Table2:PullFactorVulnerabilities

toCapitalFlowReversals

Weakgrowthoutlook

Higherexternaldebttogrossdomesticproductratio

Higherdependencyonforeigncurrency-denominateddebt

Shorter-termstructureindebt

Higherdependencyoninternationalbanks

Limitedforeigncurrencyreservesforinternationalpayments

Lowerratioofexportstogrossdomesticproduct

Institutionalarrangements,suchaslimitedindependenceofthecentralbank,lowtaxcollectionorfiscalresources,andweakerlawenforcement

Source:Authors.

5

FedTighteningandCapitalFlowReversalsinEmergingMarkets

2007).Ifthelendersareforeigninvestorsandtheirlendingisnotadequatelyhedgedinthemarket,actualexposuretotheUSdollarmaybelargerthanthedollarlendingratio,becausetheriskofexchangeratefluctuationsismerelytransferredtothecreditorside(“originalsinredux”).Insuchcases,economiesremainvulnerabletoexchangeratefluctuations,andexternalfinancialshockscanstillinitiateanegativecycleofcapitaloutflows,localcurrencydepreciation,andcreditcrunch(Hofmann,Shim,andShin2021).Thisriskishigherwhentheprimarysourceoflendingfromabroadisforeignbanks,asthesequicklyraiselendingratesandadoptmoreselectivelendingattitudesinresponsetopolicyratehikesbytheircentralbanks(BrunoandShin2015).

Persistentfiscaldeficitsareanadditionalindicatorofvulnerability.Thetwindeficitshypothesisindicatesthat,allelsebeingequal,higherfiscaldeficitswillresultinworsecurrentaccountbalances(BluedornandLeigh2011),whichmaytriggercapitalflowreversalsandleadtocrisesinemergingeconomies(Fratzscher2012,Kiendrebeogo2016,Cavallo2019).Incontrast,maintaininganappropriatelevelofFXreservestocushiontemporaryshockstotheexternalaccountcanimprovefinancialstabilityandcurbtheriskofcrises(BocolaandLorenzoni2020).CountrieswithsmallerFXreservestendtoexperiencemorefrequentsuddenstopsincapitalinflows(Edwards2004).

Tradestructuresmayalsopartlyshapetheimpactofexternalshocksontheeconomy.Countrieswithlimitedtradesurplusesaremorelikelytocontracttheirimportstoserviceexternaldebtsinthepresenceofcapitaloutflowsandcurrencydepreciation(SachsandWilliamson1985).Whenshocksareglobalanddragexternaldemand,countrieswithlessprocyclicalexportingsectorsarelesslikelytoexperienceabalanceofpaymentscrisis.AndeconomiescharacterizedbyalowerratioofexportstoGDPmaybemorevulnerabletotheeffectsofexternalshocks,astheadjustmentprocessmayrequireamoresignificantcurrencydepreciation(Guidottietal.2004,CavalloandFrankel2008).

WHICHCAPITALINFLOWSARE

ATGREATERRISKOFREVERSAL?

Someresearchstudiesarguethatthecompositionoftheforeigninvestorbaseinfluencescapitalflowsmorethaneconomicfundamentals(Cerutti,Claessens,andPuy2019).Thus,policymakersshouldalsomonitorthemodesandsourcesofcapitalinflowstoassessthepotentialriskofcapitalflowreversals.

Theperceivedwisdomisthatforeigndirectinvestment(FDI)isattractedbyaneconomy’smedium-andlong-termfundamentalsandthusislesssusceptibletoglobalcreditcycles(LaneandMcQuade2014).ThismaybepartlybecauseFDIiscountercyclicaloracyclicwithrespecttoeconomicconditionsinmajorsourceeconomies,whicharetheglobalfinancialcenters(Yeyati,Panizza,

andStein2007).Asaresult,surgesinFDIarelesslikelytoturnintobustsandfinancialmarketinstability(Ghosh,Ostry,andQureshi2016).

However,thesensitivityofFDIflowstoglobalfinancialconditionsmayvaryconsiderablydependingontheFDI-receivingsectors.NonfinancialFDIistypicallydirectedattheexpansionofproductionplantsandequipment,soitsdeterminantsarelikelytodifferfromthedriversofportfolioinvestments.Factorsincludingtaxincentives,thedegreeoftradeopenness,andtradeandhistoricaltiestothehosteconomiesmattermorethanglobalfinancialconditions.However,FDIintothefinancialsectorappearstobeassociatedwithaboom-and-bustcycleinGDPgrowthandresponsivetoglobalfactors(Dell’ErbaandReinhardt2015).AstherestrictionsonmoneymarketfundingarefoundtocorrelatenegativelywithbankingflowsandpositivelywithfinancialsectorFDI,thetwodifferentflowsarelikelytobesubstitutesforeachother.

Similarly,banklendingismorestronglyaffectedbypushfactorssuchasglobalriskaversionandliquidity(Milesi-Ferrettietal.2011).Itisalsoprocyclical,sothatsignificantexposuretoforeignbanksopensachannelforashockinforeignmarketstotransmittoanddestabilizedomesticfinancialmarkets(Goldberg2002).Duringperiodsofmonetarytighteninginmajoradvancedeconomies,internationalbankstypicallyreducetheirlendingtocorporatesinemergingeconomies.Inaddition,theyalsocutlendingtotheirlocalsubsidiariesandlocalbanks,worseningthecreditsqueezeinemergingeconomies(CetorelliandGoldberg2011,Buchetal.2019).Somestudiesarguethatcross-borderbanklendingbecamerelativelymorestableagainstglobalriskconditionsaftertheglobalfinancialcrisis(ForbesandWarnock2021),whereastheresponsivenessofbanklendingflowstoUSmonetarypolicydidnotdecrease(Avdjievetal.2020).Infact,asmajorcentralbanks’monetarypoliciesconverged,thisresponsivenessrosesignificantlyintheyearsbetweentheglobalfinancialcrisisandthe2013tapertantrum.2

Inthesameperiod,alongsidetherelativedecreaseintheroleofinternationalbanklending,nonbankcorporatesfromemergingeconomiessignificantlyincreasedfundingraisedthroughtheirforeignsubsidiaries,whichmightberiskierthaninterbanklending(Chui,Fender,andSushko2014).Similarly,inflowsfrombenchmarkinvestmentfunds,whichhavesoaredinrecentyears,areknowntobemoresensitivetoshocksthaninflowsfromotherfinancialinstitutions(Arslanalpetal.2020).Therefore,internationalbanklendingmayhavebecomelessresponsivetoglobalriskconditionsbecauseofthechangeincompositionofinternationalactivebanks,butthenewlyemergedalternativesmaybeassensitiveastheconventionalcross-borderbanklending.

Portfolioinvestmentsareintermediateinnaturebetweenbanklendinganddirectinvestment.Evidenceindicatesthatportfolio

2In2013,theFed’sdiscussionontaperingunconventionalmonetarypoliciescausedasignificantriseinbondmarketvolatilityandfinancialturbulenceinemergingmarkets.

6

ADBBRIEFSNO.242

investorsactbasedonclosemonitoringofemergingmarketconditionsduringperiodsofheightenedmarkettensions.Butwhencrisisstrikes,portfolioinvestors’actionsaretypicallydrivenbyherdbehaviorandunderpinnedbyaversiontoriskanduncertainty(LoDuca2012).Insuchcases,capitalflowreversalsmayhappenquicklyandhavesignificantconsequences.Duringthe2013tapertantrum,portfolioinvestmentoutflowsfromemergingeconomieswerelimited,buttheyresultedinsubstantialfinancialmarketvolatility(DahlhausandVasishtha2014).Similarly,duringtheearlystagesoftheCOVID-19pandemic,economieswithlessliquiddomesticcapitalmarkets,highforeigninvestorratios,highexchangeratevolatility,andwidesovereignspreadsexperiencedlargeincreasesinriskpremiumsinresponsetobondportfolioinvestmentoutflows(HördahlandShim2020).

HOWCANPOLICYMAKERSRESPONDTOCAPITALOUTFLOWS?

AggressivetighteningbytheFedisreducingglobalfinancialliquidityanddampeninginvestors’riskappetite—thetwomajorcyclicalpushfactorsdrivingcross-bordercapitalflowstoemergingeconomies.Whilesomestudiesindicatethatcross-borderlendingbecamelessnegativelycorrelatedwithglobalfinancialvolatilityinthelastdecade,thisfindingmustbeinterpretedwithcaution.Followingtheglobalfinancialcrisis,globalfinancialcenterswentthroughaprolongedperiodoflargelyaccommodativemonetarypolicies,sothatinternationalfinancialmarketsonlyexperiencedlimitedspikesinvol