Time-varying Effect of Monetary Policy on Capital Flows in Korea

Joonyoung Hur () and Kyunghun Kim ()
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Joonyoung Hur: Department of Economics, Sogang University, Seoul
Kyunghun Kim: School of Economics, Hongik University

No 2003, Working Papers from Nam Duck-Woo Economic Research Institute, Sogang University (Former Research Institute for Market Economy)

Abstract: This paper examines the effect of domestic monetary policy on capital flows after controlling for the effect of conventional push factors (global factors). We conduct a time-varying coefficient vector autoregressive (TVC-VAR) model analysis using monthly data (January 2010−July 2019) from Korea, a representative small open economy with monetary autonomy. Our empirical results show that an expansionary monetary policy shock has a short-run (1- and 3-month) negative impact on gross inflows to the equity market, which is the main driver of gross capital inflows to Korea. This negative effect increases throughout the sample period. Monetary policy easing is also associated with a decrease in outflows of equity, representing a reversal of Korean residents’ foreign equity investment as the domestic policy rate decreases. This effect dampens the negative impact on gross capital inflows, which leads to mild responses of net capital inflows in the short run. We also find a clear relationship between the level of the policy rate and its impact on gross capital inflows. The lower the policy rate, the greater the negative impact of the expansionary monetary policy shock on gross capital inflows. This time-varying effect reflects difficulties that many emerging market economies including Korea face in setting monetary policy when policy rates are low.

Keywords: Monetary policy; Capital flows; Push factors; Time-varying effect (search for similar items in EconPapers)
JEL-codes: E5 F3 F4 (search for similar items in EconPapers)
Pages: 28 pages
Date: 2020
New Economics Papers: this item is included in nep-cba, nep-mac, nep-mon and nep-opm
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