Capital Markets, COVID-19 and Policy Measures

37 Pages Posted: 9 Mar 2021

See all articles by Khalid ElFayoumi

Khalid ElFayoumi

International Monetary Fund

Martina Hengge

International Monetary Fund (IMF)

Multiple version iconThere are 4 versions of this paper

Date Written: February 1, 2021

Abstract

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, this paper examines if 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, we find that these domestic factors played an important role, particularly for emerging markets and bond flows, contributing to a global wave of reallocation to safer asset classes. Our results indicate that 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; however, evidence from the CDS market suggests that the increase in flows was dominated by supply forces, reflecting investors' preference for stronger policy responses. In contrast, we find that interest rate cuts led to a decline in portfolio flows as investors searched for higher yield. Finally, we show that COVID policy responses also affected countries' exposure to the global shock and that pre-COVID macroeconomic conditions, such as lower sovereign risk and higher trade openness, contributed to larger flows during the COVID episode.

JEL Classification: F30, F21, G11, I12, E43, E62, E50, G10

Suggested Citation

ElFayoumi, Khalid and Hengge, Martina, Capital Markets, COVID-19 and Policy Measures (February 1, 2021). IMF Working Paper No. 2021/033, Available at SSRN: https://ssrn.com/abstract=3799625

Khalid ElFayoumi (Contact Author)

International Monetary Fund ( email )

Washington, DC
United States

Martina Hengge

International Monetary Fund (IMF) ( email )

United States

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