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Is Domestic Uncertainty a Local Pull Factor Driving Foreign Capital Inflows? New Cross-Country Evidence

Sangyup Choi, Gabriele Ciminelli and Davide Furceri

No 2022rwp-195, Working papers from Yonsei University, Yonsei Economics Research Institute

Abstract: Theory and conventional wisdom suggest that an increase in uncertainty in one country scares away foreign investment. But, due to the limited availability of cross-country uncertainty data, empirical evidence remains scarce. This paper provides a systematic analysis of how foreign capital inflows react to an increase in political and economic uncertainty, proxied using the World Uncertainty Index. We focus on bank credit, portfolio debt, and portfolio equity capital inflows into 143 countries from 51 source countries. We find that an increase in domestic uncertainty induces a substantial and persistent decrease in bank credit and portfolio debt inflows, and (to a lesser extent) in equity inflows. The effects on portfolio flows are larger for countries with more open capital markets. We also uncover important differences in the response of portfolio flows through actively-managed and passive funds. The former are similarly sensitive to changes in uncertainty that are country-specific (purely local uncertainty) and common across countries (global uncertainty), while the latter are only sensitive to global uncertainty.

Keywords: Uncertainty; Capital flows; World Uncertainty Index; Mutual funds; ETFs; COVID-19 (search for similar items in EconPapers)
JEL-codes: F21 F32 F42 (search for similar items in EconPapers)
Pages: 48pages
Date: 2022-04
New Economics Papers: this item is included in nep-ban, nep-fdg, nep-int and nep-opm
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Related works:
Journal Article: Is domestic uncertainty a local pull factor driving foreign capital inflows? New cross-country evidence (2023) Downloads
Working Paper: Is Domestic Uncertainty a Local Pull Factor Driving Foreign Capital Inflows? New Cross-Country Evidence (2022) Downloads
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