A Theory of Capital Flow Retrenchment

Jonathan Davis and Eric Van Wincoop

No 422, Globalization Institute Working Papers from Federal Reserve Bank of Dallas

Abstract: The empirical literature shows that gross capital inflows and outflows both decline following a negative global shock. However, to generate a positive co-movement between gross inflows and outflows, the theoretical literature relies on asymmetric shocks across countries. We present a model where there is heterogeneity across investors within countries, but there are no asymmetries across countries. We show that a negative global shock (rise in global risk-aversion) generates an identical drop in gross inflows and outflows. The within-country heterogeneity relates to the willingness of investors to hold risky assets and foreign assets.

Keywords: capital flows; retrenchment; Portfolio Heterogeneity (search for similar items in EconPapers)
JEL-codes: F30 F40 (search for similar items in EconPapers)
Pages: 23
Date: 2023-08-24
New Economics Papers: this item is included in nep-ifn, nep-mon and nep-opm
Note: This paper is related to a previous draft titled “A Theory of Gross and Net Capital Flows over the Global Financial Cycle.” This paper focuses on gross capital flows, while a separate paper considers net capital flows.
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Related works:
Journal Article: A theory of capital flow retrenchment (2024)
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Persistent link: https://EconPapers.repec.org/RePEc:fip:feddgw:96609

DOI: 10.24149/gwp422

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