Hot Money - the importance of bank credit flows to emerging markets during the globalisation era
An empirical investigation of the relative importance of hot money in bank credit and portfolio flows from the US to 18 emerging markets over the period 1988-2012.
Hot money is a term most commonly used for capital that's moved from one country to another in order to earn a short-term profit on interest rate differentials or anticipated exchange rate shifts. It can lead to market instability, and so understanding and measuring it is a crucial policy issue.
This paper conducts an empirical investigation of the relative importance of hot money in bank credit and portfolio flows from the US to 18 emerging markets over the period 1988-2012. Estimating state-space models using the Kalman filter we are able to identify the unobserved amount of "hot money" in each type of flow. The analysis reveals that the importance of hot money in bank credit flows has significantly increased during the 2000s relative to the 1990s. This finding is robust to controlling for the influence of global (push) and domestic (pull) macroeconomic factors in the state-space models. The evidence supports indirectly the view that global banks have played an important role in the transmission of the global financial crisis to emerging markets, and endorses the use of regulations to manage international capital flows.
The research paper is available for download at the link below.