Nonresident Capital Flows and Volatility

Abstract

Malaysia's local currency debt market is one of the most liquid public debt markets in the world. In recent years, the growing share of nonresident holders of debt has been a source of concern for policymakers as a reason behind exchange rate volatility. The paper provides an overview of the recent developments in the conventional debt market. It builds an empirical two-stage model to estimate the main drivers of debt capital flows to Malaysia. Finally, it uses a GARCH model to test the hypothesis that nonresident flows are behind the observed exchange rate volatility. The results suggest that the public debt market in Malaysia responds adequately to both pull and push factors and find no firm evidence that nonresident flows cause volatility in the onshore foreign exchange market.

Nonresident holdings of domestic debt in Nigeria: Internal or external driven?

“…The negative coefficient on VIX or FCI highlights the hot money nature of these portfolio flows and their susceptibility to exogenous factors (Models 3–5). This result is in line with Grigorian (2019) for Malaysia and Arslanalp and Tsuda (2015) who suggest that benchmark‐driven investors, who constitute a larger share of global portfolio flow decisions, are mostly sensitive to global shocks and less so to country‐specific factors.…”

“…Using monthly data over 2007M1–2019M1, we specify the following equation: where the dependent variable represents foreign holdings of debt and/or equity, regressed on domestic and global variables. Similar independent variables, especially global factors, have been used in the literature (Bae, 2012; Baldacci, Gupta, & Mati, 2008; Grigorian, 2019; Koepke, 2018; Konopczak, 2015; Rey, 2015; Senga et al, 2018). Domestic factors include the rate of return on NTBs, Nigeria country specific risk (measured by ICRG risk index as explained above), measure of exchange rate pressure (12 months NDF and spread between Bureau de Change (BDC)‐official exchange rate) and a dummy representing the introduction of the I&E window.…”

“…Agur, Chan, Goswami, and Sharma (2018) show that EM local‐currency sovereign bond yields co‐move with international interest rates. In Malaysia, Lu and Yakovlev (2018) show that an efficient FX derivatives market could help attract a wider range of FPIs, while Grigorian (2019) studies the relationship between portfolio flows and exchange rate volatility. Kemoe and Zhan (2018), in a sample of 33 EMDCs, present evidence that higher fiscal transparency can reduce sovereign interest rate spreads and increase foreign holdings of sovereign debt.…”

“…But it also increases debt vulnerabilities. Foreign participation in local debt markets can increase the transmission of global shocks (Ebeke & Kyobe, 2015; Essers et al, 2016), raise external funding risks (Arslanalp & Tsuda, 2014), raise exchange rate volatility (Grigorian, 2019), and increase yield volatility (Ebeke & Lu, 2015). They can also increase risks of capital reversals, especially if inflows are driven by global factors and/or appropriate domestic policies are not put in place to limit potential outflows.…”