Author: Krittika Banerjee and Ashima Goyal
Title: Current Account Imbalances: Exploring Role of Domestic and External Factors for Large Emerging Markets
Abstract: Global trade imbalances have been a focal point of discussion in international economics literature but opinions remain highly divided with respect to its origin. This paper studies the impact of relative financial development and governance institutions of key large emerging market economies (EMEs) on their current account balances (CAB) defined as surpluses vis-a-vis impact from uncertainty in foreign capital flows over 1995-2018. Changing dynamics of global imbalances, that underwent significant structural changes around the years 2000 and 2008 (Global Financial Crisis), is also studied. Panel instrumental variable (Anderson–Hsiao, 1981) estimation is used to account for endogeneity from institutions. Results show that EMEs with higher financial development as well as better governance institutions accumulate significantly lesser surpluses. This supports the hypothesis of excess precautionary savings from lack of institutions. Democratic accountability emerges as a dominant factor throughout the entire period of analysis and also yielded the highest impact on CAB during pre-2008 years. Government stability and anti-corruption measures along with financial development influenced CAB only after 2000. While surpluses are reduced with better institutions, they are, however, increased significantly with higher uncertainty in the external sector as well as with higher independence from natural resource exports. EME surpluses were increased significantly with increased volatility in net flows in overall and portfolio equity capital respectively in 2001-08 and post-2008 period, the latter showing the higher impact on portfolio flows to EMEs during unconventional monetary policy years. Results indicate that during post-2008 years significant rebalancing in EME surpluses occurred due to less intervention accompanied with lower growth and developing institutions. Policy implications follow: EMEs institutions are important instruments in correcting global imbalances, while AE policies should also take into account repercussions on EMEs through the financial and external sectors.
Keywords: Current Account, Global Imbalances, Governance, Capital Flows, Precautionary Savings, Uncertainty, Anderson–Hsiao method.
JEL Code: F42, F14, F32