Paper on the effect of global capital flows receives award

Posted on October 06, 2015

Professor Nicola Viegi of the Department of Economics and his PhD student Haakon Kavli received the award for best paper in macroeconomics at the Economic Society of South Africa Conference, held in September 2015.
According to the authors, policy makers in emerging markets are increasingly preoccupied by the effect of global capital flows on the stability of their economy. The paper, entitled ‘Portfolio flows in a two-country DSGE model with financial intermediaries’ present a model to illustrate the effect of global capital flows on a small emerging economy and to help identify the policy options available to an emerging market policy maker. 
In this model, as it is argued in reality, portfolio flows are driven by global risk and they affect the real economy by expanding the bank balance sheet and the credit availability in the small emerging economy.
The results show that financial shocks can be absorbed by changes in the supply of risk free assets, as the experience of quantitative easing in industrialised countries has shown. Real shocks on the other hand can be absorbed by keeping the supply of financial assets fixed and instead allowing the prices to adjust to demand. 
The model also helps in understanding the role of macroprudential policies, change in reserve requirements and other financial regulations that central banks are increasingly adding to their armour of instruments. It further shows that macroprudential regulation that limits the total risk exposure of the financial sector increases the volatility of portfolio flows, but reduces the volatility of consumption and labour and therefore increases welfare.
Haakon Kavli, PhD student.
- Author Department of Economics

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