nep-ifn New Economics Papers
on International Finance
Issue of 2011‒04‒30
twelve papers chosen by
Ajay Shah
National Institute of Public Finance and Policy

  1. Financial remoteness and the net external position By Martin Schmitz
  2. International diversification benefits with foreign exchange investment styles By Kroencke, Tim A.; Schindler, Felix; Schrimpf, Andreas
  3. Shifts in portfolio preferences of international investors: an application to sovereign wealth funds By Sa, Filipa; Viani, Francesca
  4. Does the level of capital openness explain “fear of floating” amongst the inflation targeting countries? By Mukherjee, Sanchita
  5. International Propagation of Financial Shocks in a Search and Matching Environment By Marlène Isoré
  6. Currency Speculation in a Game-Theoretic Model of International Reserves By Carlos J. Perez; Manuel S. Santos
  7. How resilient were emerging economies to the global crisis ? By Didier, Tatiana; Hevia, Constantino; Schmukler, Sergio L.
  8. U.S. intervention during the Bretton Wood Era:1962-1973 By Michael D. Bordo; Owen F. Humpage; Anna J. Schwartz
  9. Geographical and institutional distances in venture capital deals: How syndication and experience drive internationalization patterns By Tykvová, Tereza; Schertler, Andrea
  10. Robustness and Contagion in the International Financial Network By Tilman Dette; Scott Pauls; Daniel N. Rockmore
  11. Specialization in the Presence of Trade and Financial Integration: Explorations of the Integration-Specialization Nexus By Bos Jaap W.B.; Economidou Claire; Zhang Lu
  12. Dissecting the Effect of Credit Supply on Trade: Evidence from Matched Credit-Export Data By Daniel Paravisini; Veronica Rappoport; Philipp Schnabl; Daniel Wolfenzon

  1. By: Martin Schmitz (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.)
    Abstract: This paper shows that, controlling for standard determinants of net external positions, financially-remote countries exhibit more positive net external positions. This finding is found to be stronger for less advanced countries, hinting at external funding problems for more remote countries. Being located near financially very open countries, being in currency unions with creditor countries, or being highly integrated through financial and trade linkages with a ‘core’ country facilitates net external borrowing. Consequently, evidence is found for an important role of geographic and bilateral factors for a country’s net external wealth. JEL Classification: F21, F34, F41.
    Keywords: net foreign assets, cross-border investment, distance, proximity.
    Date: 2011–04
  2. By: Kroencke, Tim A.; Schindler, Felix; Schrimpf, Andreas
    Abstract: This paper provides a comprehensive analysis of portfolio choice with popular foreign exchange (FX) investment styles such as carry trades and strategies commonly known as FX momentum, and FX value. We investigate if diversification benefits can be achieved by style investing in FX markets relative to a benchmark allocation consisting of U.S. bonds, U.S. stocks, and international stocks. Overall, our results suggest that there are significant improvements in international portfolio diversification due to style-based investing in FX markets (both in the statistical, and most importantly, in the economic sense). These results prevail for the most important investment styles after accounting for transaction costs due to re-balancing of currency positions, and also hold in out-of-sample tests. Moreover, these gains do not only apply to a mean-variance investor but we also show that international portfolios augmented by FX investment styles are superior in terms of second and third order stochastic dominance. Thus, even an investor who dislikes negatively skewed return distributions would prefer a portfolio augmented by FX investment styles compared to the benchmark. --
    Keywords: International Diversification,Foreign Exchange Speculation and Hedging,Carry Trades,Stochastic Dominance,Investment Styles
    JEL: G11 G12 G15
    Date: 2011
  3. By: Sa, Filipa (Trinity College, University of Cambridge); Viani, Francesca (Banco de España)
    Abstract: Reversals in capital inflows can have severe economic consequences. This paper develops a dynamic general equilibrium model to analyse the effect on interest rates, asset prices, investment, consumption, output, the exchange rate and the current account of a shift in portfolio preferences of foreign investors. The model has two countries and two asset classes (equities and bonds). It is characterised by imperfect substitutability between assets and allows for endogenous adjustment in interest rates and asset prices. Therefore, it accounts for capital gains arising from equity price movements, in addition to valuation effects caused by changes in the exchange rate. To illustrate the mechanics of the model, we calibrate it to analyse the consequences of an increase in the importance of sovereign wealth funds (SWFs). Specifically, we ask what would happen if ‘excess’ reserves held by emerging markets were transferred from central banks to SWFs. We look separately at two diversification paths: one in which SWFs keep the same allocation across bonds and equities as central banks, but move away from dollar assets (path 1); and another in which they choose the same currency composition as central banks, but shift from US bonds to US equities (path 2). In path 1, the dollar depreciates and US net debt falls on impact and increases in the long run. In path 2, the dollar depreciates and US net debt increases in the long run. In both cases, there is a reduction in the ‘exorbitant privilege’, ie, the excess return the United States receives on its assets over what it pays on its liabilities. The model is applicable to other episodes in which foreign investors change the composition of their portfolios.
    Keywords: Portfolio preferences; sudden stops; imperfect substitutability; global imbalances; sovereign wealth funds.
    JEL: F32
    Date: 2011–04–18
  4. By: Mukherjee, Sanchita
    Abstract: Abstract Under the assumption of perfect capital mobility, inflation targeting (IT) requires central banks to primarily focus on domestic inflation and to let their exchange rate float freely. This is consistent with the macroeconomic trilemma suggesting monetary independence, perfect capital mobility and a fixed exchange rate regime are mutually incompatible. However, some recent empirical evidence suggests that many developed and developing countries following an IT regime are reacting systematically both to deviations of inflation from its target and to exchange rates. I empirically examine whether the responsiveness of the interest rate to exchange rate fluctuations can be explained in terms of limited capital openness. Applying Arellano-Bond dynamic panel estimation method for 22 IT countries, I find that short-term interest rates do respond to real exchange rate fluctuations. However, the responsiveness of the interest rate to the exchange rate declines significantly as capital market openness increases. The results indicate that capital controls have a significant impact on the exchange rate policy of the IT central banks, as the central banks have relatively less control over the exchange rate movements with greater openness of the capital market.
    Keywords: Macroeconomic Trilemma; Inflation Targeting; Interest Rates; Exchange Rate Policy; Capital Market Openness
    JEL: E58 E52 E44 F41
    Date: 2011–04–12
  5. By: Marlène Isoré
    Abstract: This paper develops a two-country multi-frictional model where the freeze on liquidity access to commercial banks in one country raises unemployment rates via credit rationing in both countries. The expenditure-switching channel, whereby asymmetric monetary shocks traditionally lead to negative comovements of home and foreign outputs, is considerably weakened via opposite forces driving the exchange rate. Meanwhile, it is proved that financial market integration forms a transmission channel per se, without resorting to international cross-holdings of risky assets. The search and matching modeling serves two purposes. First, it accounts for the time needed to restore a normal level of confidence following financial market disruptions. Second, it allows dissociating pure liquidity contractions from non-walrasian financial shocks, arriving despite global excess savings and due to heterogeneity in the quality of the banking system. The former induce negative comovements of home and foreign outputs, in accordance with the literature, whereas the new type of financial shocks does generate financial contagion.
    Keywords: matching theory, financial markets, credit rationing, financial multiplier, international transmission, financial crises, open economy macroeconomics
    JEL: C78 E44 E51 F41 F42 G15
    Date: 2011–04
  6. By: Carlos J. Perez (Universidad Carlos III de Madrid); Manuel S. Santos (Department of Economics, University of Miami)
    Abstract: This paper is concerned with the ability of speculation to gener- ate a currency crisis. We consider a game-theoretic setting between a unit mass of speculators and a government that holds foreign currency reserves. We analyze conditions under which the speculators may be able to force the government to devaluate the currency. Among these conditions, we analyze the role of heterogeneous beliefs, transaction costs, the level of international reserves, and the widening of cur- rency bands. The explicit consideration of international reserves in our model makes speculators’ actions to be strategic substitutes— rather than strategic complements. This is a main analytical depar- ture with respect to related global games of currency speculation not including reserve holdings (e.g., Morris and Shin, 1998). Our sim- ple framework with international reserves becomes suitable to review some long-standing policy issues.
    Keywords: Currency speculation, international reserves, currency crises, global games, asymmetric information.
    JEL: F31 D8
    Date: 2011
  7. By: Didier, Tatiana; Hevia, Constantino; Schmukler, Sergio L.
    Abstract: This paper studies the cross-country incidence of the 2008-2009 global crisis and documents a structural break in the way emerging economies responded to the global shock. Contrary to popular perceptions, emerging market economies suffered growth collapses comparable, or even larger, to those experienced by advanced economies during the crisis. With such large financial and real shock, most of the world economy came to a halt when the crisis hit, with most countries resuming their pre-crisis growth rates afterwards. While emerging economies were not able to avoid the crisis collapse, they grew at a higher rate during the post crisis, relative to before and, as usual, to advanced countries. Moreover, emerging economies initiated their recovery sooner. Breaking with the past, emerging economies were able to conduct countercyclical policies, and became more similar to developed countries in softening the impact of the crisis and in their ability to pursue expansionary policies.
    Keywords: Economic Theory&Research,Emerging Markets,Currencies and Exchange Rates,Debt Markets,Banks&Banking Reform
    Date: 2011–04–01
  8. By: Michael D. Bordo; Owen F. Humpage; Anna J. Schwartz
    Abstract: By the early 1960s, outstanding U.S. dollar liabilities began to exceed the U.S. gold stock, suggesting that the United States could not completely maintain its pledge to convert dollars into gold at the official price. This raised uncertainty about the Bretton Woods parity grid, and speculation seemed to grow. In response, the Federal Reserve instituted a series of swap lines to provide central banks with cover for unwanted, but temporary accumulations of dollars and to provide foreign central banks with dollar funds to finance their own interventions. The Treasury also began intervening in the market. The operations often forestalled gold losses, but in so doing, delayed the need to solve Bretton Woods’ fundamental underlying problems. In addition, the institutional arrangements forged between the Federal Reserve and the U.S. Treasury raised important questions bearing on Federal Reserve independence.
    Keywords: Banks and banking, Central ; Foreign exchange administration ; Federal Open Market Committee ; Gold ; Bretton Woods Agreements Act
    Date: 2011
  9. By: Tykvová, Tereza; Schertler, Andrea
    Abstract: Drawing on a novel dataset of worldwide venture capital deals, we investigate how venture capitalists (VCs) overcome the complexity of investing in geographically and institutionally distant regions. Our results indicate that syndicating with local VCs is a common way for foreign VCs to gain deal access, overcome the complexity of investing in distant regions and offset their lack of within-country experience. The foreign VC's distance from the portfolio company ceases to be a serious investment obstacle when he can rely on a highly experienced local VC. Our results further suggest that inexperienced VCs, i.e. those VCs with a large need for syndication, increase their chances to invest across borders when they invest in small deals jointly with local inexperienced partners. --
    Keywords: Multiple Regression Analysis,Syndicates,Venture Capital,Internationalization,Distance,Experience
    JEL: F21 G24
    Date: 2011
  10. By: Tilman Dette; Scott Pauls; Daniel N. Rockmore
    Abstract: Globalization has created an international financial network of countries linked by trade in goods and assets. These linkages allow for more efficient resource allocation across borders, but also create potentially hazardous financial interdependence, such as the great financial distress caused by the 2010 threat of Greece's default or the 2008 collapse of Lehman Brothers. Increasingly, the tools of network science are being used as a means of articulating in a quantitative way measures of financial interdependence and stability. In this paper, we employ two network analysis methods on the international investment network derived from the IMF Coordinated Portfolio Investment Survey (CPIS). Via the "error and attack" methodology [1], we show that the CPIS network is of the "robust- yet-fragile" type, similar to a wide variety of evolved networks [1, 2]. In particular, the network is robust to random shocks but very fragile when key financial centers (e.g., the United States and the Cayman Islands) are affected. Using loss-given-default dynamics [3], "extinction analysis" simulations show that interdependence increased from 2001 to 2007. Our simulations further indicate that default by a single relatively small country like Greece can be absorbed by the network, but that default in combination with defaults of other PIGS countries (Portugal, Ireland, and Spain) could lead to a massive extinction cascade in the global economy. Adaptations of this approach could form the basis for risk metrics designed to monitor and guide policy formulation for the stability of the global economy.
    Date: 2011–04
  11. By: Bos Jaap W.B.; Economidou Claire; Zhang Lu (METEOR)
    Abstract: In this paper we investigate the economic integration - industrial specialization nexus and unravel the relationship between trade and financial openness and industrial specialization. For a panel of 31 countries over the period 1970 to 2005, we find that trade integration relates negatively to specialization, while financial integration relates positively tospecialization. Furthermore, the relationship between trade (financial) integration and specialization is further deepened by the level of financial (trade) integration. Lastly, trade integration has a stronger connection to industrial specialization in countries with a high degree of intra-industry trade, whereas financial integration has a stronger connectionto specialization in countries with a relatively underdeveloped financial system. Our findings are robust to various measures and alternative model specifications.
    Keywords: financial economics and financial management ;
    Date: 2011
  12. By: Daniel Paravisini; Veronica Rappoport; Philipp Schnabl; Daniel Wolfenzon
    Abstract: We estimate the elasticity of exports to credit using matched customs and firm-level bank credit data from Peru. To account for non-credit determinants of exports, we compare changes in exports of the same product and to the same destination by firms borrowing from banks differentially affected by capital flow reversals during the 2008 financial crisis. A 10% decline in credit reduces by 2.3% the intensive margin of exports, by 3.6% the number of firms that continue supplying a product-destination, but has no effect on the entry margin. Overall, credit shortages explain 15% of the Peruvian exports decline during the crisis.
    JEL: F10 F30 F40 G15 G21 G32
    Date: 2011–04

This nep-ifn issue is ©2011 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.