Sudden stops of capital flows: the role of outflows as a mechanism to offset sudden stops of inflows

Abstract

We study the determinants of sudden stops in capital flows to emerging markets. Using gross international asset and liability flows (from the point of view of domestic residents), we identify three types of situations: (1) countries that do not experience any type of sudden stops; (2) those who experience a sudden stop in inflows (liabilities), but no sudden stop in their net financial account of the balance of payments; and (3) countries who suffer a sudden stop in inflows and in their net financial account. With these three events and a series of control variables, we estimate a multinomial logit model. The most important results are two. In the first place, we find that developed countries have about the same probability of experiencing sudden stops in gross capital inflows as emerging economies. Secondly, the probability of experiencing a sudden stop in gross inflows that winds up becoming a sudden stop in the financial account is affected by the behavior of a country’s international assets: countries whose agents possess assets abroad tend to repatriate them during periods of sudden stops in inflows, while countries whose agents invest domestically are much more sensitive to the behavior of foreign investors and their humors. In particular, the novel explanatory variable we use is the correlation between changes in inflows and outflows, which can be interpreted as a proxy for financial development.