Capital Flows to Emerging Markets: Liberalization, Overshooting and Volatility

CEPR Discussion Paper No. 1889

Posted: 20 Sep 1998

See all articles by Philippe Bacchetta

Philippe Bacchetta

University of Lausanne; Centre for Economic Policy Research (CEPR); Swiss Finance Institute

Eric van Wincoop

University of Virginia - Department of Economics; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: May 1998

Abstract

The paper analyzes the impact of financial liberalization and reform in emerging markets on the dynamics of capital flows to these markets, using a simple model of international investors' behavior. We first show that the gradual nature of liberalization, combined with the cost of absorbing large inflows in emerging eonomies, leads to rich dynamics of capital flows and often implies an initial period of overshooting as portfolios adjust. Asset prices will also overshoot. Second, we show that, if investors have incomplete information about new emerging markets, and learn over time, there can be high volatility of capital flows and contagion. Finally, we provide numerical estimates of long-run capital inflows to emerging market economies and compare them to actual inflows. This gives a good indicator of upcoming crisis situations.

JEL Classification: F21, F32

Suggested Citation

Bacchetta, Philippe and van Wincoop, Eric, Capital Flows to Emerging Markets: Liberalization, Overshooting and Volatility (May 1998). CEPR Discussion Paper No. 1889, Available at SSRN: https://ssrn.com/abstract=125472

Philippe Bacchetta (Contact Author)

University of Lausanne ( email )

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HOME PAGE: http://www.hec.unil.ch/pbacchetta/

Centre for Economic Policy Research (CEPR)

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Eric Van Wincoop

University of Virginia - Department of Economics ( email )

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