Inbound portfolio bond investments and domestic monetary policy effect in emerging countries

ABSTRACT

In emerging markets, regulating foreigners’ selling of a country’s local bonds has the potential to discourage them from investing in these bonds and to help the country’s domestic short-term interest rates affect the size of their investment flows. This finding is based upon an analysis of the determinants of foreigners’ portfolio bond investments in 20 emerging countries over the period 2001–2015. This analysis also supports a global financial cycle hypothesis stressing the dominant role played by global factors in international capital flows and examines one policy implication of that: a dilemma between international capital mobility and independent monetary policy effect.

KEYWORDS:

• Global financial cycle
• foreign bond investments
• emerging countries
• monetary policy
• capital control

JEL CLASSIFICATION:

• F30
• G10
• O10

Disclosure statement

No potential conflict of interest was reported by the author.

Notes

¹ Inaba (2019, 2020) examine the Rey-type dilemma regarding international stock return comovements and international sovereign bond return comovements, respectively.

² Financial economists have demonstrated that limits on arbitrages can (i) discourage investors from correcting a price appreciation of specific bonds preferred by some investors, which occurs due to the increasing scarcity of those bonds (Culbertson 1957; Modigliani and Sutch 1966; Gromb and Vayanos 2010; Greenwood and Vayanos 2014), and (ii) encourage investors to ride a bullish market generated by other investors (Abreu and Brunnermeier 2002, 2003).

³ Using a high-frequency dataset, Fratzscher (2012) analyzes the 2018 collapse and subsequent surge in global capital flows to 50 economies with afocus upon net capital flows and finds the dominant role played by GFs both in the collapse and surge, with different degrees among countries.

⁴ Using a particular method to estimate the impact of weekly changes in (i) controls on capital outflows and inflows and (ii) macroprudential measures related to international transaction for 60 countries over the period 2009–2011, Forbes, Fratzscher, and Straub (2015) show that the capital control measures were less capable than the macroprudential measures in terms of achieving intended objectives.

⁵ Using CFP and CFS together appears to require the insertion of another two interaction terms (CFP × CFS and ΔDSI × CFP × CFS) which make it complicated to interpret estimation results.