Research into linkages between international capital flows, currency crises and exchange rate regimes [PhD Yanping Zhao, 6 February]

The linkages between international capital flows, currency crises and exchange rate regimes are relevant for global financial stability in an increasingly integrated world. Zhao’s contributes to the literature both methodologically and empirically.

First, Zhao shows that the factors driving hot money flows in China from 2000 to 2012 depend on the way hot money is measured. The expected exchange rate is a robust driver no matter which measure we use, while the interest rate is not significant. The significance of the stock market index, the real estate climate index and the VIX depends on the way in which we measure hot money flows.

Second, Zhao argues that sudden stops need not automatically translate into currency crashes. In order to reduce the probability of having sudden stops with currency crashes, an open trade sector, a balanced external sector and deeper financial markets are required. We suggest ways for maintaining financial stability under alternative exchange rate regimes. Economies with a hard peg should aim for balanced government budgets and open up their trade sector. Economies with other pegs should develop their financial sector and open up their trade sector, while economies with an intermediate regime should develop their financial sector.

Third, Zhao shows that it is particularly relevant to explore alternative early warning systems for different exchange rate regimes. In fixed exchange rate regimes, there is a marked deterioration in external indicators, such as deviations of the real exchange rate from trend and the growth of international reserves, before currency crises occur. Indicators that prove to be useful in anticipating crises in floating exchange rate regimes are credibility and monetary policy indicators, such as inflation and domestic credit growth. Both credibility and external economic indicators have predictive power for currency crises in intermediate exchange rate regimes.

Finally, Zhao finds that the unbiased forward exchange rate hypothesis does hold for China in Spring 2009, but not in other periods. In the Spring of 2009 the Chinese authorities returned to peg the Renminbi to the US dollar to overcome the turmoil of the global financial crisis. These results suggest that the forward market for the Renminbi is inefficient.

Yanping Zhao will be awarded her PhD in economics and business on 6 February 2014 (14.30h). Thesis supervidors are prof.dr. J. de Haan and prof.dr. L.J.R. Scholtens. Thesis title: Essays on international capital flows, currency crises and exchange rate regimes.