Exit strategies, capital flight and speculative attacks: Europe's version of the trilemma

Abstract

In the winter 2011/12 a wave of internal capital ‡ight prompted the ECB to abandon its exit strategy and to announce an unprecedented monetary expansion. We analyze this episode in several dimensions: (i) by providing an event-study analysis covering key variables from national central banks' balance sheets, (ii) by rationalizing their patterns in a portfolio balance model of the exchange rate, augmented by institutional characteristics of the TARGET2 system, and (iii) by proposing a theory-based index of exchange market pressure within the euro area. We argue that the euro area entails an inherent policy trilemma that makes it prone to speculative attacks. JEL Classi…cation: E42; F36; F41; F45.We would like to thank, without implicating, Michael Hutchison, Kenneth Kletzer and Michael Melvin for helpful comments and suggestions, and the Bundesbank Regional O¢ ce in Bremen, Lower Saxony and Saxony-Anhalt for its …nancial support.

Crash for cash: Offshore financial destinations and IMF programs

“…Our research extends existing knowledge of the dynamics of capital flight (Pepinsky, 2014;Zucman, 2015;Boyce and Ndikumana, 2017;Steiner et al, 2019). Previous studies on capital flight have focused on its institutional and political driving forces (Frantz, 2018;O'Donovan et al, 2019;Bayer et al, 2020;Kalyanpur and Thrall, 2022), underlying illicit financial activities (Reuter, 2017;Bean, 2018;Kubinec and Pandya, 2019;Collin, 2020;Meierrieks and Schneider, 2021), and the behavioral mechanics of tax evasion and illicit financial flows (Allred et al, 2017;Bruno, 2019;Morse, 2022).…”

“…Globalization has intensified cross-border flows of capital. While capital inflows have brought development opportunities (Alfaro et al, 2010;Pinto and Zhu, 2016;Bunte, 2019), they have also increased the vulnerability of countries to global shocks (Tomz, 2007;Frieden, 2016;Steiner et al, 2019;Mosley, 2020). A key concern is that sudden stops of capital inflows and short-term capital flight undermine the exchange rate, resulting in balance of payments crises (Dreher and Walter, 2010;Gourinchas and Obstfeld, 2012;Walter, 2013).…”

The currency composition of international reserves, demand for international reserves, and global safe assets

“…Uncertainties regarding the stability of the Eurozone triggered by the Euro crisis may be a factor constraining the viability and future functionality of TARGET2. See Steiner et al (2019) and the references therein for further analysis.…”

Capital flight to Germany: Two alternative measures

“…These net capital movements are reflected in Germany's large creditor position in the TARGET2 clearing system and are partly a by-product of the European Central Bank's (ECB's) decentralized implementation of monetary policy and the corresponding asymmetric liquidity provision across national central banks (NCBs). With the introduction of the ECB's full allotment policy, the NCBs refinancing operations support a swap of eligible collateral items in crisis-prone countries into assets of safe-haven countries, like Germany (Garber, 1999(Garber, , 2010Sinn and Wollmershäuser, 2012;Cecchetti et al, 2012;Reinhart, 2016;Steiner et al, 2019).…”