International Capital Flows

52 Pages Posted: 21 Feb 2007 Last revised: 19 Aug 2010

See all articles by Eric van Wincoop

Eric van Wincoop

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

Cédric Tille

Graduate Institute of International and Development Studies (HEI)

Multiple version iconThere are 3 versions of this paper

Date Written: January 2007

Abstract

The sharp increase in both gross and net capital flows over the past two decades has led to a renewed interest in their determinants. Most existing theories of international capital flows are in the context of models with only one asset, which only have implications for net capital flows, not gross flows. Moreover, there is no role for capital flows as a result of changing expected returns and risk-characteristics of assets as there is no portfolio choice. In this paper we develop a method for solving dynamic stochastic general equilibrium open-economy models with portfolio choice. We show why standard first and second-order solution methods no longer work in the presence of portfolio choice, and extend them giving special treatment to the optimality conditions for portfolio choice. We apply the solution method to a particular two-country, two-good, two-asset model and show that it leads to a much richer understanding of both gross and net capital flows. The approach highlights time-varying portfolio shares, resulting from time-varying expected returns and risk characteristics of the assets, as a potential key source of international capital flows.

Suggested Citation

van Wincoop, Eric and Tille, Cedric, International Capital Flows (January 2007). NBER Working Paper No. w12856. Available at SSRN: https://ssrn.com/abstract=964415

Eric Van Wincoop (Contact Author)

University of Virginia - Department of Economics ( email )

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National Bureau of Economic Research (NBER)

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Cedric Tille

Graduate Institute of International and Development Studies (HEI) ( email )

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Switzerland

HOME PAGE: http://sites.google.com/site/cedrictilleheid/home

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