Short-term Capital Flows Research Articles

International Transmission of Monetary Policy: The Usa to India

The present study attempts measure the transmission of monetary impulse from the USA to India by trying to quantify the extent of volatility spillover from the US monetary policy to the exchange rate and interest rate of India. By applying a t-DCC MGARCH model to daily data on Fed Funds Rate, Rupee Dollar Exchange Rate and the Call Money rate of India it was found that there is considerable volatility spillover from the Fed Rate to the exchange rate. Spillover is also clearly evident in case of the call rate. The extent of spillover is higher for the foreign exchange rate than the call money rate. However, it was also noticed that the spillover is asymmetric in either of the cases and is higher during phases of high volatility. In an era of flexible exchange rates excessive dependence of the Indian Economy on short term capital flows to finance the current account deficits which raises the dollar demand and exposes the Indian economy to the Monetary Policy of the US, needs to be reduced. Reforms in the nature of capital flows is also the need of the hour.

Analyzing The Relationship Among The GDP - Current Account Deficit and Short Term Capital Flows: The Case of Emerging Markets

In this study, it was analyzed if there was causal relationship among the current deficit, short term capital flows and economic growth in emerging markets. Before causality test was done, CDLM tests were done in order to the fact that to be able to determine if there was cross section dependence in countries form the panel. At the end of CDLM tests cross section dependence in emerging markets form the panel was determined. Then, panel causality test developed was done. According to the result of panel causality test bidirectional causality between current account deficit and GDP, unidirectional causality from short term capital flows to current deficit and GDP were determined.

Reserve option mechanism as a stabilizing policy tool: Evidence from exchange rate expectations

During the recent era, many emerging market economies have implemented unconventional policy measures to mitigate the effect of large swings in short-term capital flows on domestic business cycles. This paper focuses on a novel capital flow management tool, the reserve option mechanism (ROM) introduced by the Central Bank of Turkey, that allows banks to hold a certain fraction of their domestic-currency required reserves in foreign currency. The results suggest that, after the introduction the ROM (i) market expectations leaned towards a significantly lower volatility or skewness in the U.S. dollar/Turkish lira (USD/TL) relative to other emerging market exchange rates; (ii) controlling for a set of domestic and common external factors, the USD/TL expectations have exhibited lower levels of volatility, skewness and kurtosis; (iii) the higher the intensity of ROM (the fraction of ROM-based reserves in total international reserves) the stronger the effect of ROM on exchange rate expectations. Last, we provide evidence that the mechanism acts as an automatic stabilizer of expectations about excessive movements in the exchange rate: the mechanism decreases the sensitivity of expected USD/TL kurtosis to the common external factor (by an estimated decrease of about 85%). In sum, the results provide evidence that the mechanism contains market expectations about excessive fluctuations in the exchange rate, decreasing expected likelihood of an abrupt reversal of capital flows.

Managing short-term capital flows in new central banking: unconventional monetary policy framework in Turkey

During the global financial crisis of 2008–2009, both advanced and emerging countries have implemented significant easing policies on monetary and fiscal fronts. Yet, the recovery, especially in advanced countries, was not as quick or strong as expected. These quantitative easing policies, coupled with weak recovery and restricted fiscal positions, have created not only abundant but also excessively volatile global liquidity conditions, leading to short-term and excessively volatile capital flows to emerging markets. To contain potential risks due to such flows, emerging countries have augmented their existing policy frameworks. Central Bank of the Republic of Turkey (CBRT), for example, has introduced two new policy tools in its new monetary policy framework: the asymmetric interest rate corridor and the reserve option mechanism (ROM). From a capital flows perspective, the interest rate corridor helps smooth fluctuations in supply of foreign funds, whereas the ROM helps contain movements in demand for foreign funds. Both policies have been actively used by the CBRT and appeared to be effective in containing financial stability risks stemming from excessively volatile capital flows.

The Federal Reserve in a Globalized World Economy

The Federal Reserve in a Globalized World Economy

Global Economic Meltdown on Nigerian Capital Market

Global Economic Meltdown on Nigerian Capital Market Biokoro Clifford, Hasret Balcioglu Abstract The intensification of the crisis has noticeably exposed the vulnerability of the international financial system to short-term capital flow; the Nigerian capital market is not left out. This study therefore focuses on the effect of Global Economic Meltdown on the Nigerian Capital market. An econometric model is specified using market capitalization as a proxy for Nigerian capital market. The emphasis is on the quantitative influence of each of the predetermined variables on the endogenous. Data for regression analysis are collected from various secondary sources. The data used in this study covers the period of 1997-2008 to make the findings more recent and applicable to the present state of the Nigerian economy. The method of analysis includes the use of Ordinary Least Square (OLS), and other statistical test like F-test, T-test, R2 and Durbin-Watson Statistic (DW). It has been concluded that market capitalization is positively influenced by FDI and external reserves. Full Text: PDF DOI: 10.15640/jeds.v2n4a11

Managing exchange markets in the EMS with free capital

This paper discusses the EMS in a number of sections. Section 1 examines the potential effects of full capital mobility on the sovereignty of national policy making. Section 2 looks at the history of exchange rate management (ERM) within the system to date, and Section 3 considers the role of monetary policy within the ERM. Sections 4 and 5 discuss the future viability of the system in terms of recent changes. In conclusion (Section 6) it is noted that the pressures of short-term capital flows, given free capital, will entail a further loss of monetary autonomy for member countries.

La gestione del cambio nello SME con completa mobilità dei capitali

This paper discusses the EMS in a number of sections. Section 1 examines the potential effects of full capital mobility on the sovereignty of national policy making. Section 2 looks at the history of exchange rate management (ERM) within the system to date, and Section 3 considers the role of monetary policy within the ERM. Sections 4 and 5 discuss the future viability of the system in terms of recent changes. In conclusion (Section 6) it is noted that the pressures of short-term capital flows, given free capital, will entail a further loss of monetary autonomy for member countries. JEL Codes: F15 Keywords: International trade and balance of payments

Reserve Option Mechanism as a Stabilizing Policy Tool: Evidence from Exchange Rate Expectations

During the recent era, many emerging market economies have implemented unconventional policy measures to mitigate the effect of large swings in short-term capital flows on domestic business cycles. This paper focuses on a specific unconventional policy tool introduced by the Central Bank of Turkey, the Reserve Option Mechanism (ROM), that in principle contains excessive fluctuations in foreign exchange rate and helps cushion the economy from large swings in external factors. Controlling for a set of domestic and external common factors, the results show that USD/TL expectations have exhibited lower levels of volatility, skewness and kurtosis due to implementation of the ROM. Moreover, the higher the intensity of ROM (the fraction of ROM-based reserves in total international reserves) the stronger the effect of ROM on exchange rate expectations. Last, we provide evidence that the mechanism acts as an automatic stabilizer of expectations about excessive movements in the exchange rate: the mechanism decreases the sensitivity of expected USD/TL kurtosis to the common external factor (by an estimated decrease of about 85%).

How Effective are Capital Controls? Evidence from Malaysia

This paper examines the role of capital controls as a macroeconomic policy tool in light of the Malaysian experience. It consists of an econometric analysis of quarterly data over the period 1990–2010 using newly constructed capital inflow and outflow policy indexes as well as analytical narratives of episodes of controls imposed on inflows (1994) and outflows (1998–1999). The findings suggest that well-targeted controls have the potential to tame both short-term capital inflows and outflows without exerting a backwash effect on foreign direct investment, at least in the short to medium term. Controls on capital inflows introduced in the first half of 1994 helped moderate accumulation of short-term capital flows, particularly short-term bank credit. During 1998–1999, carefully designed temporary capital controls were successful in providing Malaysian policymakers a viable setting for applying the standard Keynesian therapy.

Financial crisis and a transmission mechanism of external shocks: The signaling role of the Korean Monetary Stabilization Bond

This paper explores a transmission mechanism of an exogenous shock to domestic financial markets by investigating the potential signaling role of the Monetary Stabilization Bond (MSB) spread together with several financial variables in Korea. The MSB spread widened and became more volatile during the crisis period after the variance change point at the end of 2007, when the causality relationships between the key variables became apparent. The empirical results illustrate that a foreign shock, which directly leads to rapid short-term capital flow and foreign exchange rate fluctuation, is likely to have a significant contagion effect on domestic financial markets in the case where it has a sizable negative impact on national foreign reserve holdings. The MSB is a monetary policy instrument for foreign exchange reserve management, and the daily observable MSB spread is a timelier signal in this transmission channel.

Financial Crisis and a Transmission Mechanism of External Shocks: The Signaling Role of the Korean Monetary Stabilization Bond

This paper explores a transmission mechanism of an exogenous shock to domestic financial markets by investigating the potential signaling role of the Monetary Stabilization Bond (MSB) spread together with several financial variables in Korea. The MSB spread widened and became more volatile during the crisis period after the variance change point at the end of 2007, when the causality relationships between the key variables became apparent. The empirical results illustrate that a foreign shock, which directly leads to rapid short-term capital flow and foreign exchange rate fluctuation, is likely to have a significant contagion effect on domestic financial markets in the case where it has a sizable negative impact on national foreign reserve holdings. The MSB is a monetary policy instrument for foreign exchange reserve management, and the daily observable MSB spread is a timelier signal in this transmission channel.

Banking and Financial Reform at the Crossroads of the Neoliberal Contagion

At the time of publication, this article provided the most in-depth critique of capital account liberalization in any U.S. law journal. The article stemmed from a paper presented by the author to the Seventh Annual Conference of the United States-Mexico Law Institute in Santa Fe, New Mexico on October 3, 1998, during the climax of one of the most volatile periods in the global financial markets. The Russian ruble was in free fall, and so was Long-Term Capital Management, a hedge fund that was threatening to bring down its own large creditors. The crisis was averted only by an emergency multi-billion dollar bailout brokered at the offices of the New York Federal Reserve Bank. This article situates that financial volatility within the context of the 1990's global currency contagion that had spread from Mexico and Latin America to East Asia. Canova identified a recurring pattern associated with the liberalization of portfolio capital. The initial dependence on short-term foreign investment requires a restrictive monetary policy and higher interest rates to maintain the inflow. The inflow, however, contributes to overvalued exchange rates that in turn contribute to unsustainable trade and current account deficits. What follows is an inevitable panic sell-off and flight to foreign-denominated assets. The sudden outflow of capital then leads to fiscal austerity and other disciplines imposed as conditions for International Monetary Fund (IMF) assistance. After describing the dynamics of contagion, Canova inventories the range of legal instruments and institutions prematurely pushing capital account liberalization on developing countries. From the IMF Articles of Agreement to IMF loan conditions, from Bilateral Investment Treaties (BITs) to provisions of the North American Free Trade Agreement (NAFTA), Canova demonstrates that the program of capital account liberalization is part of a Wall Street agenda. The symbiotic relationship between regulators and private financial actors raises fundamental constitutional questions about accountability in a representative democracy. The article concludes by proposing several reforms of the international monetary system, including various restrictions on short-term capital flows, the recycling of surpluses through foreign aid flows, and the issuance of global currency in the form of Special Drawing Rights. The analysis synthesizes various methodological approaches, including comparative, historical and institutional approaches: prudential restrictions on portfolio inflows (such as the Chilean ?encage?); a global turnover tax on currency transactions (such as the Tobin Tax proposal, named after former Nobel economist, the late James Tobin); reform of the burdens of adjustment (modeled on the Marshall Plan); and use of the dormant Scarce Currency clause in the IMF Articles of Agreement. The article deals with obscure and often technical matters in an easy-to-read conversational style that is accessible to non-experts.

Hedge Funds and Asian Crisis: A Perspective of Hot Money and Structural Deficiencies

The Asian financial crisis (1997) was one of the worst financial crises in Asia and has raised concerns not only for the future of region’s economy but also of the world economy as a whole. Though Asian crisis was centered only in South Asia but its impact was so deep that its reverberations were felt in the whole world. Asian financial crisis became a moot point and in recent subprime crisis policy makers tried to take lessons from it. In one of the articles recently published, it was quoted “The catchphrases may be different, but there are many similarities between the 1997 Asian financial crisis and today's.More than ten years have passed since the crisis but the real reasons for crisis are still debatable as different scholars have different views on it. One view suggests inherent weakness in the domestic structural factors of the economies was responsible for the crisis. This includes weak banking system, lack of adequate laws and regulations, and also the absence of strong supervision and enforcement of prudential regulation. Another view suggests that short term capital flows were more responsible for it. South Asian economies were the preferred destination for global investors because of high interest rates and therefore attractive to investors considering higher rates of return. There was a large influx of money and soaring asset prices. The South Asian economies were inflated with this short term capital which was expensive and conditioned on quick profits.As far as short term investments are concerned, investment funds and especially Hedge Funds were criticized during and after Asian crisis owing to their unregulated nature and near collapse of Long Term Capital Management. The idea that hedge funds were responsible for crisis was also supported by political figures. Dr Mahathir, the then Malaysian Prime Minister, in one of the statements published in the Wall Street Journal on September 23, 1997 remarked.“Whole region can be bankrupted by just a few people whose only objective is to enrich themselves and their rich clients....”The analysis of hedge funds with respect to the Asian financial crisis is important because some scholars still believe that hedge funds were primarily responsible for the crisis. After crisis two major international studies were conducted to ascertain the role of hedge funds in crisis. The first was the IMF study “Hedge Funds and the Financial Markets dynamics” led by Barry Eichengreen and Donald Methieson and published in May 1998. According to this, hedge funds were small entities of a very large system and it is misguided to blame them. Another major international report was written by FSF Working group on Highly Leveraged Institutions and published in 2000. According to this, hedge funds and proprietary trading desks have the potential to destabilize financial markets. Thereafter several studies were conducted by world bodies like IMF but there is no consensus on the real causes till date. According to IMF, South East Asian economies were experiencing a huge inflow of money and from 1990 to 1995, financial intermediaries invested somewhere around $20 billion in these economies and in 1996 this amount had dramatically increased to $45 billion per annum. Then with the collapse of Thai Baht and Malaysian Ringitt, there was a sudden outflow of $58 billion which created a chain reaction and currencies of other nations also started falling. But the question is that South East Asian economies which were experiencing high growth before 1997 faced economic crisis only because of outflow of money; or this outflow acted as catalyst in the already existing weak and fragile domestic structural factors.The paper will begin with an analysis of events leading to the Asian financial crisis. From there, it will discuss the presence of hedge funds and their activities in Asia. Based on this discussion, it will analyze whether there was significant presence of hedge funds to destabilize Asian markets.

Capital Controls: Myth and Reality - A Portfolio Balance Approach

The literature on capital controls has (at least) four very serious apples-to-oranges problems: (i) There is no unified theoretical framework to analyze the macroeconomic consequences of controls; (ii) there is significant heterogeneity across countries and time in the control measures implemented; (iii) there are multiple definitions of what constitutes a “success” and (iv) the empirical studies lack a common methodology - furthermore these are significantly “overweighted” by a couple of country cases (Chile and Malaysia). In this paper, we attempt to address some of these shortcomings by: being very explicit about what measures are construed as capital controls. Also, given that success is measured so differently across studies, we sought to “standardize” the results of over 30 empirical studies we summarize in this paper. The standardization was done by constructing two indices of capital controls: Capital Controls Effectiveness Index (CCE Index), and Weighted Capital Control Effectiveness Index (WCCE Index). The difference between them lies in that the WCCE controls for the differentiated degree of methodological rigor applied to draw conclusions in each of the considered papers. Inasmuch as possible, we bring to bear the experiences of less well known episodes than those of Chile and Malaysia. Then, using a portfolio balance approach we model the effects of imposing capital controls on short-term flows. We find that there should exist country-specific characteristics for capital controls to be effective. From this simple perspective, this rationalizes why some capital controls were effective and some were not. We also show that the equivalence in effects of price- vs. quantity-capital control are conditional on the level of short-term capital flows.

Are price-based capital account regulations effective in developing countries?

In this article, we evaluate the effectiveness of policy measures adopted by Chile and Colombia aiming to mitigate the deleterious effects of pro-cyclical capital flows. In the case of Chile, according to our GMM analysis, capital controls succeeded in reducing net short-term capital flows, but did not affect long-term flows. As far as Colombia is concerned, the regulations were capable of affecting total flows and also long-term ones. In addition, our cointegration models indicate that the regulations did not have a direct effect on the real exchange rate in the Chilean case. Nonetheless, the model used for Colombia did detect a direct impact of the capital controls on the real exchange rate. Therefore, our results do not seem to support the idea that those regulations were easily evaded.

Volatility of Short-term Capital Flows and Private Investment in Emerging Markets

Using micro-level panel data, the paper analyses the impacts of short-term capital flow volatility on new fixed investment spending of publicly traded real sector firms in three major emerging markets – Argentina, Mexico and Turkey. The empirical results, including sensitivity tests, suggest that increasing volatility of capital inflows has an economically and statistically significant negative effect on new investment spending of private firms. Accordingly, a 10 per cent increase in capital flow volatility reduces fixed investment spending in the range of 1–1.7, 2.3–15, and 1 per cent in Argentina, Mexico and Turkey respectively.

Did capital controls decrease capital flows in Malaysia?

This article considers whether Malaysian capital controls were effective in reducing short-term capital flows, as the authorities intended. Although the controls began in September 1998, the effectiveness of Malaysian capital controls has not been demonstrated. This article analyzes the regressions using dummy variables and by constructing a profit rate differential index over the period of the changes in controls as an independent variable. These variables are composed of the profit rate differentials between Malaysia and the US and the levy on repatriation of profits after the introduction of the controls. This paper estimates the impact of the controls not only on gross capital flows but also on net capital flows in order to determine whether the controls were successful. The regression results suggest that gross and net capital flows were influenced by the introduction of the controls, and that they fluctuated because of changes in the controls. The net capital inflows continued to decrease after the controls were lifted. In addition, investors did not depend on the profit differential after the 12-month holding rule was replaced with the exit levy system. This indicates that the process of liberalizing and abolishing strict capital controls may encourage capital outflows.

Speculation, Hedging and Intermediation in the Foreign Exchange Market

In this study, it is attempted to estimate the amount of speculation in foreign exchange markets. Such an estimate is hard to make because it is theoretically as well as empirically difficult to delimitate speculation in relation to other activities. In particular, the destination between speculation and hedging is highly problematic. Notwithstanding these difficulties it is shown how the composition of gross flows can be used to derive information about speculation and hedging. In an extensive analysis of the interconnections of various fx market activities it is shown that hedging may generate large short-term capital flows which cannot be easily distinguished from speculation. The size of these flows does not only depend on capital and trade flows but also on net and gross stocks of foreign assets and liabilities. Based on these findings, an analysis of capital flows between Spain and the rest of the world shows that a larger part than earlier believed of the capital outflows during the EMS crisis may have been due to hedging. The second case study which focuses on Japan reveals remarkable changes in the behaviour of Japanese and/or foreign investors. What are the implications for economic policy? The study highlights the significance of stocks of open fx positions of foreigners and residents. If these stocks have been accumulating over many years, any crisis of confidence may trigger large outflows due to hedging, the size of which may by far be more important than the potential amount of speculation. Such hedging activities would hardly be deterred by a Tobin-tax or similar devices.

Ruling Out Capital Controls: European Leadership?

Capital Rules: The Construction of Global Finance. By Rawi Abdelal. Cambridge, MA: Harvard University Press, 2007. 320 pp., $49.95 (ISBN: 0-674-02369-2). For anyone who thought that there was nothing more to be said about the process of financial globalization, Capital Rules , by Rawi Abdelal, is an exciting read. In the book, Abdelal challenges the conventional wisdom that the liberalization of global capital flows is the result of US political and financial hegemony. In fact, he argues, it is Europe that led the way to the complete removal of capital controls on short-term capital flows in the late 1980s and early 1990s. Although he in no way neglects power politics, Abdelal is what many scholars of international relations would consider a constructivist. In Capital Rules , he aims to convince readers that a group of mainly French haut-fonctionnaires managed to establish a globally accepted social norm for capital liberalism. This norm replaced the norm of “embedded liberalism” that characterized the early decades of the post-World War II system of financial governance. In the late 1980s, according to Abdelal, the question became whether capital liberalism would be “ad hoc” (that is, market-driven with US support) or “managed” (that is, driven by international organizations like the European Union, the Organization for Economic Cooperation and Development [OECD], and the International Monetary Fund [IMF]). More specifically, Abdelal's general argument is as follows. To begin with, a group of Frenchmen at the head of the European Commission—in particular its president, Jacques Delors, and his chef de cabinet , Pascal Lamy—managed to convince the member states of the European Union to adopt legislation that would commit them to remove all capital controls by 1992. The special attention accorded to …