Capital Markets, COVID‐19 and Policy Measures

ABSTRACT

The COVID‐19 episode provided a unique quasi‐experimental setting to revisit the relative roles of domestic policies and global factors in shaping capital flows. Using high‐frequency portfolio flows data, this paper examines the effects of pandemic severity, containment measures, and fiscal and monetary policy responses during the initial phase of the pandemic, while shedding light on the associated transmission channels. We find that domestic conditions and policies explained a large share of cross‐country heterogeneity in flows, particularly for emerging markets and bond flows. Higher domestic COVID‐19 cases and tighter lockdown measures led to significantly larger portfolio inflows, on account of higher financing needs and de‐risking effects of containment measures. Fiscal stimulus supported foreign inflows on average but amplified the adverse impact of the global shock. By contrast, expansionary monetary policy reduced flows in developed markets but had no significant effect in emerging markets, pointing to the role of the global financial cycle in constraining monetary policy effectiveness in emerging markets.