Global liquidity and capital flow regulations

Abstract

After the Global Financial Crisis, the usage of capital controls and macroprudential policies has returned and becomes an essential element of the policy paradigm in different countries. However, our knowledge on the effectiveness of these policy instruments is still insufficient and requires serious empirical reconsideration. The main contribution of our paper is in identifying that capital controls (on both outflows and inflows) and macroprudential instruments are effective measures in reducing the volume of cross-border banking flows in a sample of 112 countries over the period 2000–2016. Using panel regressions incorporating country fixed effects, we find that FX and/or countercyclical reserve and countercyclical capital buffer requirements, reserve requirement ratios and concentration limits are the most effective macroprudential instruments to manage countries’ exposures to global liquidity fluctuations. Additionally, capital surcharges on SIFIs, limits on interbank exposures and foreign currency loans are also associated with a large reduction in flows, a finding which contributes to the literature by emphasizing the importance of macroprudential instruments aimed at financial institutions’ assets or liabilities. However, leverage ratios, limits on domestic currency loans, levy/tax on financial institutions, and other borrower related instruments appear to be insignificant regulatory measures. At times of large and volatile cross-border capital flows, it is desirable to employ both capital controls and macroprudential policies, with latter tend to be generally more effective measures in reducing the volume of cross-border banking flows. The results are robust to changes in the estimation methodology and varying sets of the control variables.

This is a preview of subscription content, access via your institution.

Notes

  1. 1.

    Fear of appreciation is defined as the tendency to intervene to depreciate (or to delay the appreciation of) the local currency [52].

  2. 2.

    Fernández et al. [35] "Capital Control Measures: A New Dataset". Available at: http://www.nber.org/data-appendix/w20970/.

  3. 3.

    Cerutti et al. [20, 21, 25, 26] “The Use and Effectiveness of Macroprudential Policies: New Evidence”. Available at: https://www.imf.org/en/Publications/WP/Issues/2016/12/31/The-Use-and-Effectiveness-of-Macroprudential-Policies-New-Evidence-42791.

  4. 4.

    European Central Bank Warehouse macroprudential database. Available at: https://sdw.ecb.europa.eu/browse.do?node=9689335.

  5. 5.

    The basket of goods reflected by the GDP deflator, which is a unit of GDP, is different from the typical basket of goods consumed by households (which is predominated by the C element of GDP). The GDP deflator should be employed to deflate nominal GDP to get real GDP. It is not a measure of household inflation, nor is it assigned to be, and employing to measure the rate of inflation rate experienced by households is not right.

  6. 6.

    See Introductory Econometrics: A Modern Approach by Wooldridge [73, 74] for discussion and derivation.

References

  1. 1.

    Abiad, A., D. Leigh, and A. Mody. 2009. Financial integration, capital mobility, and income convergence. Economic Policy 24 (4): 241–305.

    Article  Google Scholar 

  2. 2.

    Ahmed, S., and A. Zlate. 2013. Capital flows to emerging market economies: A brave new world? International Finance Discussion Papers 1081, Washington, D.C.: Board of Governors of the Federal Reserve System, 1–46.

  3. 3.

    Akerlof, G.A., O.J. Blanchard, D. Romer, and J.E. Stiglitz. 2014. What have we learned? Macroeconomic policy after the crisis, 1–368. Cambridge: MIT Press.

    Google Scholar 

  4. 4.

    Ang, A., and G. Bekaert. 2002. International asset allocation with regime shifts. Review of Financial Studies 15: 1137–1187.

    Article  Google Scholar 

  5. 5.

    Arellano, M., and O. Bover. 1995. Another look at the instrumental variable estimation of error-components models. Journal of Econometrics 68: 29–52.

    Article  Google Scholar 

  6. 6.

    Baba, C., and A. Kokenyne. 2011. Effectiveness of Capital Controls in Selected Emerging Markets in the 2000s. IMF Working Paper, WP/11/281, 1–44.

  7. 7.

    Beirne, J., and C. Friedrich. 2014. Capital flows and macro-prudential policies: A multilateral assessment of effectiveness and externalities. Working Paper Series, No. 1721, ECB, Frankfurt.

  8. 8.

    Beirne, J., and C. Friedrich. 2017. Macroprudential policies, capital flows, and the structure of the banking sector. Journal of International Money and Finance 75 (C): 47–68.

    Article  Google Scholar 

  9. 9.

    Binici, M., M. Hutchison, and M. Schindler. 2010. Controlling capital? Legal restrictions and the asset composition of international financial flows. Journal of International Money and Finance 29: 666–684.

    Article  Google Scholar 

  10. 10.

    Blundell, R., and S. Bond. 1998. Initial conditions and moment restrictions in dynamic panel data models. Journal of Econometrics 87: 115–143.

    Article  Google Scholar 

  11. 11.

    Borio, C., and A. Crockett. 2000. In search of anchors for financial and monetary stability. Greek Economic Review 20 (2): 1–14.

    Google Scholar 

  12. 12.

    Borio, C., and I. Shim. 2007. What can (macro)-prudential policy do to support monetary policy? in Bank of Thailand (ed) Inflation targeting in emerging market countries, Bank of Thailand, 13–14 November 2006. BIS Working Papers, 1–38.

  13. 13.

    Bretton Woods Final Act. 1944. International economic problems. Section VII, 1–1135. https://fraser.stlouisfed.org/scribd/?item_id=7570&filepath=/docs/publications/books/1948_state_bwood_v1.pdf&start_page=950.

  14. 14.

    Brunnermeier, M.K. 2009. Deciphering the liquidity and credit crunch 2007–08. Journal of Economic Perspectives 23 (1): 77–100.

    Article  Google Scholar 

  15. 15.

    Brunnermeier, M.K., J. De Gregorio, P.R. Lane, H. Rey, and H.S. Shin. 2012. Banks and cross-border capital flows. Policy challenges and regulatory responses. VoxEU.org.

  16. 16.

    Bruno, V., I. Shim, and H.S. Shin. 2015. Comparative assessment of macroprudential policies. Bank for International Settlements BIS Working Papers, No. 502, 1–53.

  17. 17.

    Bruno, V., and H.S. Shin. 2013. Capital flows and the risk-taking channel of monetary policy, cross-border banking and global liquidity, w18942. No: National Bureau of Economic Research.

    Google Scholar 

  18. 18.

    Bruno, V., and H.S. Shin. 2014. Assessing macroprudential policies: Case of South Korea. Scandinavian Journal of Economics 116 (1): 128–157.

    Article  Google Scholar 

  19. 19.

    Calvo, G.A., L. Leiderman, and C.M. Reinhart. 1994. The capital inflows problem: Concepts and issues. Contemporary Economic Policy, XII, July 1994.

  20. 20.

    Cerutti, E., S. Claessens, and L. Laeven. 2015a. The use and effectiveness of macroprudential policies: New evidence. IMF Working Paper, WP/15/61, 1–42.

  21. 21.

    Cerutti, E., S. Claessens, and L. Laeven. 2016. The use and effectiveness of macroprudential policies: New evidence. Journal of Financial Stability (also IMF WP 15/61).

  22. 22.

    Cerutti, E., S. Claessens, and D. Puy. 2015b. Push factors and capital flows to emerging markets: Why knowing your lender matters more than fundamentals. International Monetary Fund, IMF Working Paper, WP/15/127, 1–42.

  23. 23.

    Cerutti, E., S. Claessens, and L. Ratnovski. 2014. Global liquidity and drivers of cross-border bank flows. IMF, Working Paper, WP/14/69, 1–27.

  24. 24.

    Cerutti, E., S. Claessens, and L. Ratnovski. 2016. Global liquidity and cross-border bank flows. 63rd Economic Policy Panel meeting in Amsterdam, p. 1–36.

  25. 25.

    Cerutti, E., R. Correa, E. Fiorentino, and E. Segalla. 2015c. Changes in prudential policy instruments—A new cross-country database. Manuscript, International Banking Research Network.

  26. 26.

    Cerutti, E., R. Correa, E. Fiorentino, and E. Segalla. 2017. Changes in prudential policy instruments—A new cross-country database. International Journal of Central Banking, International Journal of Central Banking 13 (2): 477–503.

    Google Scholar 

  27. 27.

    Claessens, S. 2014. An overview of macroprudential policy tools. IMF Working Paper, WP/14/214, 1–37.

  28. 28.

    Claessens, S. 2015. An overview of macroprudential policy tools. Annual Review of Financial Economics (also IMF WP 14/214), 397–422.

  29. 29.

    Claessens, S., S.R. Ghosh, and R. Mihet. 2014. Macroprudential policies to mitigate financial system vulnerabilities. IMF Working Paper, p. 1–35.

  30. 30.

    Constâncio, V. 2014. The ECB and macro-prudential policy: From research to implementation. Speech at the 3rd Macroprudential Research Network Conference, Frankfurt, 23 June 2014.

  31. 31.

    Cruz, M., and B. Walters. 2008. Is the accumulation of international reserves good for development? Cambridge Journal of Economics 32 (5): 665–681.

    Article  Google Scholar 

  32. 32.

    De Nicolo, G., G. Favara, and L. Ratnovski. (2012). Externalities and macroprudential policy. IMF Staff Discussion Note, 1–23.

  33. 33.

    Eichengreen, B., and A. Rose. 2014. Capital controls in the 21st century. Journal of International Money and Finance 48: 1–16.

    Article  Google Scholar 

  34. 34.

    Federico, P.M. 2011. Systemic liquidity risk-taking in emerging markets. mimeo, 1–43.

  35. 35.

    Fernández, A. M., W. Klein, A. Rebucci, M. Schindler, and M. Uribe. 2015. Capital controls measures: A new dataset. NBER Working Paper, No. 20, 1–970.

  36. 36.

    Forbes, K.J., and F.E. Warnock. 2012. Capital flow waves: surges, stops, flight and retrenchment. Journal of International Economics 88 (2): 235–251.

    Article  Google Scholar 

  37. 37.

    Freixas, X., L. Laeven, and J.L. Peydró. 2015. Systemic risk, crises, and macroprudential regulation, 1–488. Boston, MA: MIT Press.

    Book  Google Scholar 

  38. 38.

    Galati, G., and R. Moessner. 2011. Macroprudential policy—a literature review. BIS Working Papers 337, Bank for International Settlements, p. 1–38.

  39. 39.

    Galati, G., and R. Moessner. (2014). What do we know about the effects financial macroprudential policy? De Nederlandsche Bank Working Paper, No. 440, p. 1–25.

  40. 40.

    Gallagher, K.P. 2014. Ruling capital: Emerging markets and the reregulation of cross-border finance, 1–233. Ithaca: Cornell University Press.

    Book  Google Scholar 

  41. 41.

    Gallagher, K.P., S. Griffith-Jones, and J.A. Ocampo. 2012. Regulating global capital flows for long-run development. Pardee Center Task Force Report, Boston University, p. 1–142.

  42. 42.

    Gallagher, K.P., and Y. Tian. 2014. Regulating capital flows in emerging markets: The IMF and the Global Financial Crisis. GEGI Working Paper, No. 5 (Boston: The Frederick S. Pardee Center for the Study of the Longer-Range Future), 1–33.

  43. 43.

    Ghosh, A.R., M.S. Qureshi, and N. Sugawara. 2014. Regulating capital flows at both ends: Does it work? WP/14/188, 1–43.

  44. 44.

    Habermeier, K., A. Kokenyne, and C. Baba. 2011. The effectiveness of capital controls and prudential policies in managing large inflows. IMF Staff Discussion Note 11 (14): 1–35.

    Article  Google Scholar 

  45. 45.

    International Monetary Fund IMF. 2012. Toward operationalizing macroprudential policies: When to act? Chapter 3 in Global Financial Stability Report, September. https://www.imf.org/external/pubs/ft/gfsr/2011/02/pdf/ch3.pdf.

  46. 46.

    Korinek, A. 2010. Regulating capital flows to emerging markets: An externality view, mimeo.

  47. 47.

    Korinek, A. 2014. International spillovers and guidelines for policy cooperation a welfare theorem for national economic policymaking. Working Paper Johns Hopkins University and NBER, p. 1–44.

  48. 48.

    Korinek, A., and D. Sandri. 2015. Capital controls or macroprudential regulation? IMF Working Paper, WP/15/218, 1–34.

  49. 49.

    Korinek, A., and D. Sandri. 2016. Capital controls or macroprudential regulation? Journal of International Economics 99: 27–42.

    Article  Google Scholar 

  50. 50.

    Levin, A., C.-F. Lin, and C.-S.J. Chu. 2002. Unit root tests in panel data: asymptotic and finite-sample properties. Journal of Econometrics 108 (1): 1–24.

    Article  Google Scholar 

  51. 51.

    Levy-Yeyati, E. 2011. Are capital controls effective? VoxEU.org, 20 January.

  52. 52.

    Levy-Yeyati, E., and J. Zúñiga. 2015. Varieties of capital flows: What do we know. HKS Faculty Research Working Paper Series, RWP15-025, 1–39.

  53. 53.

    Lim, C.H., F. Columba, A. Costa, P. Kongsamut, A. Otani, M. Saiyid, T. Wezel, and X. Wu. 2011. Macroprudential policy: What instruments and how are they used? Lessons from country experiences. IMF Working Paper, No. 11/238, 1–84.

  54. 54.

    Magud, N.E., and C.M. Reinhart. 2007. Capital controls: An evaluation. In Capital controls and capital flows in emerging economies: Polices, practices and consequences, ed. S. Edwards, 645–674. Chicago: University of Chicago Press.

    Google Scholar 

  55. 55.

    Magud, N.E., C.M. Reinhart, and K.S. Rogoff. 2011. Capital controls: Myths and realities. Cambridge, National Bureau of Economic Research Working Paper 16805.

  56. 56.

    Mundell, R.A. 1963. Capital mobility and stabilization policy under fixed and flexible exchange rates. Canadian Journal of Economic and Political Science 29 (4): 475–485. https://doi.org/10.2307/139336.

    Article  Google Scholar 

  57. 57.

    Ocampo, J.A., and J.G. Palma. 2008. The role of preventative capital account regulations. Chapter 7. In Capital market liberalization and development, ed. J.A. Ocampo and J.E. Stiglitz. Oxford: Oxford University Press.

    Google Scholar 

  58. 58.

    Ocampo, J.A., and R. Vos. 2008. Policy space and the changing paradigm in conducting macroeconomic policies in developing countries. BIS Papers 36, February 2008, p. 28–45.

  59. 59.

    Ostry, J.D., A.R. Ghosh, M. Chamon, and M.S. Qureshi. 2012. Tools for managing financial-stability risks from capital inflows. Journal of International Economics 88 (2): 407–421.

    Article  Google Scholar 

  60. 60.

    Ostry, J.D., A.R. Ghosh, K. Habermeier, M. Chamon, M.S. Qureshi, and D.B.S. Reinhardt. 2010. Capital inflows: The role of controls. IMF Staff Position Note, No. 10/04. Washington, D.C.: International Monetary Fund, p. 1–30.

  61. 61.

    Ostry, J.D., A.R. Ghosh, K. Habermeier, L. Laeven, M. Chamon, M.S. Qureshi, and A. Kokenyne. 2011. Managing capital inflows: what tools to use? IMF Staff Position Note, No. 11/06. Washington, D.C.: International Monetary Fund, 1–41.

  62. 62.

    Ostry, J.D., A.R. Ghosh, and A. Korinek. 2012. Multilateral aspects of managing the capital account. SDN/12/10. International Monetary Fund.

  63. 63.

    Papaioannou, E. 2009. What drives international financial flows? Politics, institutions and other determinants. Journal of Development Economics 88 (2): 269–281.

    Article  Google Scholar 

  64. 64.

    Reinhart, C.M., G.A. Calvo, and L. Leiderman. 1993. Capital inflows and real exchange rate appreciation in Latin America: The role of external factors. MPRA Paper 7125, University Library of Munich, Germany.

  65. 65.

    Reinhart, C.M., and K.S. Rogoff. 2008. This time is different: A panoramic view of eight centuries of financial crises. NBER Working Paper, No. 13882, 1–123.

  66. 66.

    Reinhart, C.M., K.S. Rogoff, and N.E. Magud. 2011. Capital controls: A meta-analysis approach. VoxEU.org, 24 March 2011, 1–46. Available at: http://voxeu.org/article/capital-controls-meta-analysis-approach.

  67. 67.

    Rey, H. 2013. Dilemma not Trilemma: The global financial cycle and monetary policy independence. In Proceedings of the Federal Reserve Bank of Kansas City Economic Symposium at Jackson Hole, p. 285–333.

  68. 68.

    Rey, H. (2016). International channels of transmission of monetary policy and the Mundellian Trilemma. NBER Working Papers 21852, National Bureau of Economic Research, Inc.

  69. 69.

    Rodrik, D. 2006. The social cost of foreign exchange reserves. International Economic Journal 20 (3): 253–266.

    Article  Google Scholar 

  70. 70.

    Schoenmaker, D., and P. Wierts. 2011. Macroprudential policy: The need for a coherent policy, Duisenberg School of Finance Policy Paper, No. 13.

  71. 71.

    Turner, P. 2010. Macroprudential policies and the cycle. In The financial stability board: An effective fourth pillar of global economic governance?, ed. S. Griffith-Jones, E. Helleiner, and N. Woods, 43–48. The Centre for International Governance Innovation: Special Report.

    Google Scholar 

  72. 72.

    Weitzman, M.L. 1974. Prices vs. quantities. Review of Economic Studies 41: 477–491.

    Article  Google Scholar 

  73. 73.

    Wooldridge, J.M. 2010. Econometric analysis of cross section and panel data, 2nd ed, 1–644. Cambridge: The MIT Press.

    Google Scholar 

  74. 74.

    Wooldridge, J.M. 2012. Introductory econometrics a modern approach, 5th ed, 1–912. Cincinnati: South-Western College Publishing.

    Google Scholar 

Download references

Author information

Affiliations

Authors

Corresponding author

Correspondence to Nataliia Osina.

Additional information

Publisher's Note

Springer Nature remains neutral with regard to jurisdictional claims in published maps and institutional affiliations.

Appendix: Descriptive Statistics and Benchmark Regression Results

Appendix: Descriptive Statistics and Benchmark Regression Results

See Tables 1, 2, 3, 4, 5, 6 and 7.

Benchmark Regression results

See Tables 8, 9, 10, 11, 12, 13 and 14.

Table 9 Regression results for cross-border claims to banks, for period 2000–2016
Table 10 Regression results for cross-border claims to banks, for period 2000–2016
Table 11 Regression results for cross-border claims to banks, for period 2000–2016
Table 12 Panel regression results for cross-border claims to banks, for period 2000–2016
Table 13 Regression results for cross-border claims to banks, for period 2000–2016
Table 14 Regression results for cross-border claims to banks, for period 2000–2016

Rights and permissions

Reprints and Permissions

About this article

Verify currency and authenticity via CrossMark

Cite this article

Osina, N. Global liquidity and capital flow regulations. J Bank Regul 22, 52–72 (2021). https://doi.org/10.1057/s41261-020-00128-y

Download citation

Keywords

  • Global liquidity
  • Capital flow regulations
  • Capital controls
  • Macroprudential policies
  • Effectiveness
  • Volume of cross-border banking flows