nep-ifn New Economics Papers
on International Finance
Issue of 2010‒11‒06
fifteen papers chosen by
Ajay Shah
National Institute of Public Finance and Policy

  1. Macroeconomic Impacts of Foreign Exchange Reserve Accumulation: Theory and International Evidence By Shin-ichi Fukuda; Yoshifumi Kon
  2. Asia Confronts the Impossible Trinity By Ila Patnaik; Ajay Shah
  3. Are Capital Controls and Central Bank Intervention Effective? By Hernán Rincón; Jorge Toro
  4. Taxing the Financially Integrated Multinational Firm By Niels Johannesen
  5. Determinants of sovereign bond yield spreads in the euro area in By Luciana Barbosa; Sónia Costa
  6. Desperately Seeking the Positive Impact of Undervaluation on Growth By Ridha Nouira; Khalid Sekkat
  7. Foreign Acquisitions, Domestic Multinationals, and R&D By Bandick, Roger; Görg, Holger; Karpaty, Patrik
  8. Emergence of Rating Agencies: Implications for Establishing a Regional Rating Agency in Asia By Ying Yi Tsai; Li-Gang Liu
  9. The Determinants of International Financial Integration Revisited: The Role of Networks and Geographic Neutrality. By Pérez García Francisco; Tortosa-Ausina Emili; Arribas Fernández Iván
  10. Topology of the correlation networks among major currencies using hierarchical structure methods By Mustafa Keskin; Bayram Deviren; Yusuf Kocakaplan
  11. The Republic of Korea’s Economy in the Swirl of Global Crisis By Dongchul Cho
  12. Taxation and Globalization By Isabel Horta Correia
  13. Applying the Lessons of Asia: The IMF’s Crisis Management Strategy in 2008 By Shinji Takagi
  14. The Euro After Its First Decade: Weathering the Financial Storm and Enlarging the Euro Area By Klaus Regling; Servaas Deroose; Reinhard Felke; Paul Kutos
  15. The Eurozone in the Current Crisis By Charles Wyplosz

  1. By: Shin-ichi Fukuda; Yoshifumi Kon
    Abstract: Recently, a dramatic accumulation in foreign exchange reserves has been widely observed in developing countries. This paper explores the possible long-run impacts of this trend on macroeconomic variables in developing countries. We analyze a simple open economy model where increased foreign exchange reserves reduce the costs of liquidity risk. Given the amount of foreign exchange reserves, utility-maximizing representative agents decide consumption, capital stock, and labor input, as well as the amounts of liquid and illiquid external debt. The equilibrium values of these variables depend on the amount of foreign exchange reserves. A rise in foreign exchange reserves increases both liquid and total debt, while shortening debt maturity. [ADBI Working Paper 197]
    Keywords: dramatic, foreign exchange reserves, developing countries, macroeconomic, consumption, capital stock, labor input
    Date: 2010
  2. By: Ila Patnaik; Ajay Shah (Asian Development Bank Institute)
    Abstract: In this paper, we examine capital account openness and exchange rate flexibility in 11 Asian economies. Asia has made slow progress in de jure capital account openness, but has made much more progress in de facto capital account openness. While there has been a gradual increase in exchange rate flexibility, most Asian economies continue to have largely inflexible exchange rates. This combination of advancing de facto capital account integration without greater exchange rate flexibility has led to procyclical monetary policy, when capital flows are procyclical. This paper emphasises the need for a consistent monetary policy framework.
    Keywords: capital account openness, exchange rate flexibility, Asia, capital account integration, monetary policy
    JEL: E40 E60 F41
    Date: 2010
  3. By: Hernán Rincón; Jorge Toro
    Abstract: Capital controls and intervention in the foreign exchange market are two controversial policy options that many countries have adopted in the past in order to influence the exchange rate and moderate capital flows. Colombia has a long record in the use of these policies with mixed results and often non negligible costs. The objective of this paper is to evaluate for the case of Colombia the effectiveness of capital controls and central bank intervention for depreciating the exchange rate, reducing its volatility, and moderating the exchange rate vulnerability to external shocks. The paper uses high frequency data from 1993 to 2010, and a GARCH model of the peso/US dollar exchange rate return. The main findings indicate that neither capital controls nor central bank intervention used separately were successful for depreciating the exchange rate. On the contrary, they augmented its volatility. Nonetheless, when both policies were used simultaneously, a statistical significant effect was obtained by which the interaction of capital control and intervention in the foreign exchange market were effective to produce a daily average depreciation of the exchange rate, without increasing its volatility. This result however should be taken with caution given the special economic circumstances that characterized 2008, when most of this interaction happened.
    Date: 2010–10–20
  4. By: Niels Johannesen (Department of Economics, University of Copenhagen)
    Abstract: This paper develops a theoretical model of corporate taxation in the presence of financially integrated multinational firms. Under the assumption that multinational firms at least partly use internal loans to finance foreign investment, we find that the optimal corporate tax rate is positive from the perspective of a small, open economy. This finding contrasts the standard result that the optimal source based capital tax is zero. Intuitively, to the extent that multinational firms finance investment in country i with loans from affiliates in country j, the burden of corporate taxes in the latter country partly fall on investment and thus workers in the former country. This tax exporting mechanism introduces a scope for corporate taxes, which is not present in standard models of international taxation. Accounting for the internal capital markets of multinational firms thus represents a way to resolve the tension between standard theory predicting zero capital taxes and the casual observation that countries tend to employ corporate taxes at fairly high rates.
    Date: 2010–07
  5. By: Luciana Barbosa; Sónia Costa
    Abstract: This paper aims to identify the determinants behind the different evolution of sovereign bond yields in euro area countries for the period of the current crisis. Up to the time of the collapse of Lehman Brothers, global risk premium was the main driver of spreads. Afterwards, the relevance of idiosyncratic factors increased. Although liquidity premiums played a larger role in the months following September 2008, as the financial crisis spilled over into a strongly deteriorating macroeconomic environment, the importance of country credit risk factors increased. In the first five months of 2010, heterogeneity in sovereign credit risk premiums and a further increase in global risk aversion were, to a large extent, the determining factors behind the evolution of spreads.
    JEL: E43 G12 G15
    Date: 2010
  6. By: Ridha Nouira; Khalid Sekkat (University of Brussels, Belgium)
    Abstract: This paper contributes to a current and intense debate among economists on whether real exchange rate undervaluation can boost growth. It focuses on addressing econometric and empirical issues that casts doubt about the validity of such positive impact. It also allows for the possibilities that the effect of undervaluation on growth operates with delay or dependence on the persistence or the level of undervaluation. We didn’t find any convincing support to the claim that a depreciated equilibrium real exchange rate promotes economic growth. We argue that the contrast between our results and the documented examples of a successful adoption of undervaluation strategy reported in the literature reveals that undervaluation alone is not enough to boost growth. The simultaneous adoption of companion policies may be behind the claimed success.
    Date: 2010–10
  7. By: Bandick, Roger (Aarhus School of Business); Görg, Holger (Kiel Institute for the World Economy); Karpaty, Patrik (Örebro University)
    Abstract: The aim of this paper is to evaluate the causal effect of foreign acquisition on R&D intensity in targeted domestic firms. We are able to distinguish domestic multinationals and non-multinationals, which allows us to investigate the fear that the change in ownership of domestic to foreign multinationals leads to a reduction in R&D activity in the country, as headquarter activities are relocated to the new owner's home country. We use unique and rich firm level data for the Swedish manufacturing sector and different micro-econometric estimation strategies in order to control for the potential endogeneity of the acquisition dummy. Overall, our results give no support to the fears that foreign acquisition of domestic firms lead to a brain drain of R&D activity in Swedish MNEs. Rather, this paper finds robust evidence that foreign acquisitions lead to increasing R&D intensity in acquired domestic MNEs and non-MNEs.
    Keywords: domestic multinationals, foreign acquisitions, R&D
    JEL: F23
    Date: 2010–10
  8. By: Ying Yi Tsai; Li-Gang Liu (Asian Development Bank Institute)
    Abstract: The present analysis sheds light on the setting up a regional rating agency in Asia in the wake of recent financial crisis. We investigate the policy facing a financial regulator while evaluating whether or not to admit new entrants into the credit rating market. In an incomplete contracting framework, we show that an impartial financial regulatory body (represented by a benevolent supranational organization) can facilitate credit ratings of high quality by allowing for the entry of new rating agencies on a non-single basis than it does for a mere single entry. This finding is caused by increased competition among the rating agencies, which induces higher quality of rating services even should rating agencies still exert below their maximum level of efforts.
    Keywords: rating agency, financial crisis, regulatory body, credit ratings
    JEL: D43 D82 G24 L15
    Date: 2010
    Abstract: Over the last two decades, the degree of international financial integration has increased substantially, becoming an important area of research for many financial economists. This working paper explores the determinants of the asymmetries in the international integration of banking systems. We consider an approach based on both network analysis and the concept of geographic neutrality. Our analysis focuses on the banking systems of 18 advanced economies between 1999 and 2005. Results indicate that banking integration should be assessed from the perspective of both inflows and outflows, given that they show different patterns for different countries. Using standard techniques, our results reinforce previous findings by the literature-especially the remarkable role of both geographic distance and trade integration. Nonparametric techniques reveal that the effect of the covariates on banking integration is not constant over the conditional distribution, which (in practical terms) implies that the sign of the relationship varies across countries.
    Keywords: Banking integration, geographic neutrality, network analysis, nonparametric regression.
    Date: 2009–11
  10. By: Mustafa Keskin; Bayram Deviren; Yusuf Kocakaplan
    Abstract: We studied the topology of correlation networks among 34 major currencies using the concept of a minimal spanning tree and hierarchical tree for the full years of 2007-2008 when major economic turbulence occurred. We used the USD (US Dollar) and the TL (Turkish Lira) as numeraires in which the USD was the major currency and the TL was the minor currency. We derived a hierarchical organization and constructed minimal spanning trees (MSTs) and hierarchical trees (HTs) for the full years of 2007, 2008 and for the 2007-2008 periods. We performed a technique to associate a value of reliability to the links of MSTs and HTs by using bootstrap replicas of data. We also used the average linkage cluster analysis for obtaining the hierarchical trees in the case of the TL as the numeraire. These trees are useful tools for understanding and detecting the global structure, taxonomy and hierarchy in financial data. We illustrated how the minimal spanning trees and their related hierarchical trees developed over a period of time. From these trees we identified different clusters of currencies according to their proximity and economic ties. The clustered structure of the currencies and the key currency in each cluster were obtained and we found that the clusters matched nicely with the geographical regions of corresponding countries in the world such as Asia or Europe. As expected the key currencies were generally those showing major economic activity.
    Date: 2010–10
  11. By: Dongchul Cho
    Abstract: This paper argues that the Republic of Korea (hereafter Korea) is not immune to global crises, but that a more than proportional response of gross domestic product to global crises does not seem to be the general case either. Along this line of reasoning, Korea’s extreme response to the current crisis in the fourth quarter of 2008 was attributed not only to the crisis in the United States, but also to additional idiosyncratic components, such as the extraordinary collapse of the People’s Republic of China’s (PRC) imports and the drastic capital outflow from Korea. [ADBI Working Paper 147]
    Keywords: Republic of Korea, global crises, gross domestic product, United States, Republic of China’
    Date: 2010
  12. By: Isabel Horta Correia
    Abstract: <br>The decline of capital taxation is associated with efficiency gains.<br>We show that, when agents are heterogeneous, equity concerns can change the policy recommendation driven by efficiency. Given the empirical evidence on the roots of heterogeneity inside each country, either in developing or developed economies, the elimination of capital taxation would lead always to a decline in inequality and to an increase of welfare of the poorest, in a small open economy acting unilaterally. On the contrary for a group of open economies following the same policy, the opposite occurs: with the elimination of capital taxation inequality worsens and it hurts the poorest of each country. Therefore globalization can be important to support a positive tax on capital.
    JEL: D63 E62 F42
    Date: 2010
  13. By: Shinji Takagi (Asian Development Bank Institute)
    Abstract: The paper examines the recent European crisis management programs of the International Monetary Fund (IMF) to see how the lessons of Asia were applied. Compared to the Asian programs of 1997, the European programs of 2008 were better funded and their structural conditionality more focused. Other than these, the overall thrust of the programs was similar: fiscal and monetary tightening, coupled with banking reforms. The real difference, however, was not so much about content but about philosophy. Relative to the Asian programs, the European programs were characterized by more emphasis on ownership, greater collaboration among stakeholders, more realistic assumptions and greater transparency about the risks and the logic of policy actions, and more built-in flexibility of targets and policy options. This approach to crisis management, foreshadowing the major reform of conditionality in March 2009, incorporated the changes that had been made since the Asian crisis in the IMF’s policies and procedures to manage capital account crises more effectively. Despite these recent changes in the way the IMF does its business, Asia appears to remain unengaged. The lesson Asia should draw from Europe is that it should build a strong regional institution to complement, and catalyze the involvement of, the IMF. Only then can the lessons learned in Asia over 10 years ago be applied back in Asia to benefit its own people.
    Keywords: IMF, European crisis management programs, Asia
    JEL: E65 F33 F53
    Date: 2010
  14. By: Klaus Regling; Servaas Deroose; Reinhard Felke; Paul Kutos (Asian Development Bank Institute)
    Abstract: The first decade of economic and monetary union in Europe (EMU) has been a huge success. EMU has significantly benefited its member countries and accelerated the European integration process. Imbalances within EMU—differences in growth, inflation, competitiveness, current account and budget balances—have, however, increased in the last 10 years and, with their economic implications, have become more evident in the global economic crisis. The euro has served as a shield during the crisis, and arguments that the crisis would lead to a breakup of the monetary union are neither new nor convincing. But there are lessons to be learned. Policies should be better coordinated among EMU members and structural reforms accelerated, the framework for the supervision of financial markets strengthened, and external representation streamlined. The crisis has also made the euro more attractive, and most EU countries that are not yet members of EMU are expected to join during the next decade.
    Keywords: Europe monetary union, economic integration, financial crisis, reform
    JEL: E6 F15 F3 F42
    Date: 2010
  15. By: Charles Wyplosz (Asian Development Bank Institute)
    Abstract: This paper contrasts the United States (US) and European situations during the crisis and examines how much of the crisis has been imported by Europe from the US. The paper argues that Europe never had a chance to avoid contagion from the US. It also documents the relatively limited reaction of both monetary and fiscal authorities. Muted fiscal policy actions may well be a consequence of the Stability and Growth Pact despite its having been de facto suspended. While the European Central Bank (ECB) intervened promptly and massively to attempt to maintain liquidity in the money market, it has been slow in dealing with the upcoming recession. The concluding remarks consider the differences that the monetary union has made and their relevance.
    Keywords: US, Europe, financial crisis, fiscal policy, European Central Bank
    JEL: E42 E58 E61 F32 F33
    Date: 2010

This nep-ifn issue is ©2010 by Ajay Shah. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.