INSTITUTIONAL QUALITY AND NET CAPITAL FLOW EPISODES: EVIDENCE FROM DEVELOPING ECONOMIES

Abstract

Using local projections regression, we investigate the role of institutional quality in establishing the influence of the surge, stop, flight, and retrenchment on the real sector indicators such as GDP growth rate, employment, and savings. In this study we consider 47 developing economies from 1980–2018. We construct an institutional quality index differentiating between high-institutional and low-institutional quality. We find that both the liability flow-driven episode surges and asset flow-driven flight have a more strong influence on the real sector of the developing economies as compared to stop and retrenchment. In particular, we find that the level of institutional quality acts as a gatekeeper in the host economy. We conclude that the countries with a higher level of institutional quality are less prone to the negative impacts of the large episodes as compared to the countries with a low level of institutional quality.

Keywords: Capital flows; Episodes; Institutions