Capital Markets, COVID-19 and Policy Measures

IMF Working Papers, February 12, 2021

Source details

Canonical URL

Capital Markets, COVID-19 and Policy Measures

Other formats

• Markdown version
• Structured JSON version
• Bundle manifest

Bibliographic details

• Authors: Khalid ElFayoumi, Martina Hengge
• Published: February 12, 2021
• Series: IMF Working Papers
• DOI: https://doi.org/10.5089/9781513569413.001

Summary

• The COVID-19 pandemic and associated policy responses triggered a historically large wave of capital reallocation between markets and asset classes.
• Using high-frequency country-level data, the paper examines whether and how:
  • the number of COVID cases,
  • the stringency of the lockdown, and
  • the fiscal and monetary policy response

determined the dynamics of portfolio flows.

• Despite more dominant global factors, domestic factors played an important role, particularly for emerging markets and bond flows, contributing to a global wave of reallocation to safer asset classes.

Key findings

• Rising domestic COVID cases had a strong positive effect on portfolio flows, which responded to an increase in financing needs in affected economies.
• Lockdown and fiscal policy measures also led to an increase in portfolio flows; evidence from the CDS market suggests that the increase in flows was dominated by supply forces, reflecting investors' preference for stronger policy responses.
• Interest rate cuts led to a decline in portfolio flows as investors searched for higher yield.
• COVID policy responses affected countries' exposure to the global shock.
• Pre-COVID macroeconomic conditions influenced flow magnitudes during the COVID episode:
  • lower sovereign risk contributed to larger flows,
  • higher trade openness contributed to larger flows.
• Effects were particularly pronounced for emerging markets and bond flows.

Policy implications and interpretation

• Stronger fiscal responses and stricter lockdown measures were associated with increased portfolio flows, but market evidence (CDS) signals that these flows were largely supply-driven—investor preference for stronger policy responses—rather than solely demand-driven.
• Monetary easing (interest rate cuts) may reduce portfolio flows by encouraging investors to seek higher yields elsewhere, suggesting trade-offs between domestic monetary accommodation and capital flow dynamics.
• Pre-existing macroeconomic strength (lower sovereign risk, greater trade openness) amplified capital inflows during the COVID episode, highlighting the importance of resilient fundamentals.

Data, scope, and approach

• Empirical approach: high-frequency country-level data covering portfolio flows, COVID cases, lockdown stringency, fiscal measures, and monetary policy actions.
• Markets examined include portfolio flows, bond flows, and the CDS market.
• Emphasis on differentiation between domestic factors and dominant global factors in driving capital reallocation.
• Focus on heterogeneity across countries, with emergence of stronger effects in emerging markets.

Publication and metadata

• Authors: Khalid ElFayoumi, Martina Hengge
• Publication date: February 12, 2021
• Series: Working Paper No. 2021/033
• Volume: 2021
• Issue: 033
• Pages: 36
• DOI: https://doi.org/10.5089/9781513569413.001
• Stock No: WPIEA2021033
• ISBN: 9781513569413
• ISSN: 1018-5941
• Subjects: Bonds, Central bank policy rate, COVID-19, Credit default swap, Fiscal stimulus
• Keywords: Capital flows, Covid case, Emerging markets, Fiscal policy, infection shock, Lockdown policy, Monetary policy, monetary policy action, policy measure, portfolio flow, Pull factors, trade openness, WP

IMF Working Papers

Content in this bundle

• Working Paper
  • Working Paper (Markdown version)
  • Working Paper (PDF)