Domestic Factors and Episodes of Gross Capital Inflows

Abstract

This paper extends the literature on gross capital flows by looking into domestic factors that covary significantly with cross-country differences in the transitional likelihoods of moving between episodes of capital inflows. Applying a state-transition framework, we view states of gross capital inflows as “normal”, “surge”, and “stop”, following Forbes and Warnock (2012a and 2012b) approach in identifying extreme episodes for a sample of 55 advanced and emerging economies from 1980Q1 to 2014Q4. The empirical findings show that cross-country differences in transitional likelihoods are strongly associated with state-dependence variables such as duration and occurrence. There is evidence to suggest the presence of negative duration dependence on the transitional likelihood of moving between episodes such that the longer an economy spends in a given episode, the less likely it will exit that episode. However, duration and occurrence of episodes of gross capital inflows are also significantly correlated with domestic factors such as output volatility, de facto and de jure financial openness, and foreign reserves.