Macroeconomic Drivers of Capital Flows: A Review of International Literature
DOI:
https://doi.org/10.14276/2285-0430.4271Keywords:
Capital flows, Institutions, Foreign direct investment, Portfolio debt, Portfolio equityAbstract
The increasing investment gap in developing countries has renewed interest in understanding drivers of capital flows and how these countries can attract more investment. To contribute towards this understanding, this paper reviews the theoretical and empirical literature on macroeconomic drivers of capital flows. While other reviews have covered capital flows at an aggregate level, this paper focuses on the sub-inflows — foreign direct investment (FDI), portfolio equity, and portfolio debt — disentangling differences in their drivers in empirical work. The empirical literature reviewed in this paper reveals that risk, global liquidity, and commodity prices are push factors that matter most for FDI and portfolio equity and, in addition, economic growth in source countries matters for portfolio debt. Fewer pull factors appear to drive portfolio flows (both equity and debt) whereas more are relevant for FDI. Interest rate differentials, which feature prominently in the theoretical literature, have been found to be an important driver of overall capital flows but evidence at the sub-component levels has been weak. Drivers can also vary due to models used, countries and regions studied, and time periods covered in empirical work.
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