Capital Flow Surges and Volatility

Abstract

Recent decades have witnessed a substantial rise in international financial transactions and capital flows to developing countries. This dissertation examines mainly the surge and volatility aspects of capital flows. The first chapter offers a distinctive methodology, the generalized supremum augmented Dickey Fuller (GSADF), to detect capital flow surges based on right-tailed unit root tests. Commonly used to identify asset price bubbles, GSADF method proposed by Phillips et al. (2015) provides two main advantages: it can diagnose multiple surges in a series and distinguish the behaviour of explosiveness from volatility. Exploiting the technical and conceptual similarities in the formations of asset price bubbles and capital flow surges, we perform the GSADF procedure to net capital flows data of 43 developing countries. As a result, we identified 727 individual surges, 130 separate surge episodes, and 4 global capital flow waves over the periods of 1995–2017. The second chapter explores the factors triggering capital flow surges by employing Fernandez-Val and Weidner (2016) bias-adjusted fixed effects probit model. The results show that although global factors and regional contagion play some role, domestic factors are more dominant in the surge occurrences in developing countries. The third chapter focuses on measuring and modelling time-varying volatility of capital flows by using panel GARCH (DPD-CCV) model developed by Cermeño and Grier (2006) that takes into account cross-sectional dependency and provides significant efficiency gains. Using panel data from 16 emerging market economies over the 1995-2019 period, we show that the magnitude and the volatility of net capital flows to emerging markets are predominantly driven by global push factors. However, these results seem to vary with respect to the categories of capital flows such as FDI, portfolio investments, other credit flows.