IMF Survey : Emerging Markets Show More Resilience to Capital Flow Cycle
IMF News, April 6, 2016
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Bibliographic details
- Authors: Rudolf Bems, Luis A.V. Catão IMF Research Department April
- Published: April 6, 2016
Overview
- Publication: IMF Survey by Rudolf Bems and Luis A.V. Catão, IMF Research Department, April 6, 2016.
- Scope: Analysis of more than 40 emerging market economies to understand drivers of declining capital flows since 2010, comparing the 2010s episode with downturns in 1981–85 and 1995–2000.
- Definition: Capital flows refer to all financial flows—bank, foreign direct investment, and portfolio investment between residents and non-residents.
Key findings
- Net capital flows to emerging market economies slowed significantly since 2010.
- A considerable portion of the decline in net capital flows—about $1.1 trillion from 2010 to late 2015—can be linked to investors’ concerns about diminished growth prospects in emerging market economies relative to advanced countries.
- Bouts of risk aversion and, more recently, the prospect of tighter financial conditions in some advanced economies also played a role.
- Despite lower capital inflows and higher capital outflows since 2010, emerging market economies have remained resilient.
- The impact of the 2010s decline was modest compared to earlier episodes in the 1980s and 1990s, which coincided with higher incidence of financial and debt crises.
Factors behind greater resilience
- Greater integration in global capital markets, with higher foreign assets, including foreign exchange reserves, providing latitude to manage capital flow declines.
- Improved policy frameworks over time, including better debt management strategies and macroprudential policies that changed the currency composition of public and private debt in the 2000s, reducing vulnerability to abrupt currency depreciations and country insolvency.
- Move to greater exchange rate flexibility, which:
- Helps cushion the effect of a global contraction in external financing.
- Makes outflows more costly and attracts new inflows by making domestic assets cheaper to foreign investors.
- Acts as an effective shock absorber for consumption and employment when depreciations are orderly rather than abrupt.
- External (“push”) factors—global growth, global risk aversion, and interest rate differentials—had less impact in emerging market economies with greater exchange rate flexibility.
Policy implications and recommendations
- The slowdown in capital flows reinforces the need for a continued policy upgrade in emerging market economies.
- Specific policy measures highlighted:
- Prudent fiscal policies to lower public debt and manage it better.
- Macroprudential policies to limit currency mismatches.
- Exchange rate flexibility to serve as a shock absorber.
- Prudent foreign exchange reserve management to smooth bouts of investors’ risk aversion.
- Increased vigilance is needed regarding capital outflow dynamics, which can pose significant risks but are not yet sufficiently understood.
Authors and contributors
- Lead authors: Rudolfs Bems, Luis Catão.
- Other contributors: Zsóka Kóczán, Weicheng Lian, Marcos Poplawski-Ribeiro; support from Hao Jiang, Yun Liu, Hong Yang.
IMF Survey : Emerging Markets Show More Resilience to Capital Flow Cycle — April 6, 2016. Authors: Rudolf Bems and Luis A.V. Catão, IMF Research Department.