Abnormal Capital Flows,Risk Contagion Network and Financial System Stability
In recent years,under the combined effect of the intensification of the great power game,the outbreak of COVID-19,the high global inflation,and the continued interest rate hikes by the Federal Reserve,the scale and direction of short-term capital flows among countries'financial systems have changed frequently,and some countries have en-dured unprecedented capital flow shocks.In this context,studying the stability of financial systems based on abnormal cross-border capital flows undoubtedly is of great theoretical and practical significance.Although there have been sufficient discussions in the academic community about abnormal capital flows,there are still shortcomings:Firstly,existing research often reflects abnormal capital flows from the perspective of capital flow fluc-tuations,while focusing on a single financial market or sector.This makes it difficult to distinguish the heterogeneous ef-fects of different types of abnormal capital flows,and the characterization of local effects may underestimate their actual harm to the financial system.Secondly,there is less literature that discusses risk contagion networks in the context of ab-normal capital flow shocks,which leaves much to be desired in our understanding of abnormal capital flow shocks to the financial system.Finally,the focus of research is still on the impact of abnormal capital flows,with less involvement in policy responses.Given this,this paper unfolds from the following three aspects.First,using G20 countries as samples,this paper identifies types of abnormal capital flows and constructs financial system instability indices to reveal the impact of differ-ent types of abnormal capital flows on financial system stability.Second,risk acceptance metrics are extracted based on the time-varying parametric factor-augmented vector autoregressive model(TVP-FAVAR)and combined with the fore-cast error variance decomposition method to characterize the risk contagion network for a given exogenous shock.Fur-thermore,based on the network,this paper reveals the mechanism by which abnormal capital flows affect the financial system stability in the dimensions of size and structure and summarizes the general laws of risk contagion.Third,based on the characteristics of abnormal capital flows affecting the stability of the financial system,this paper examines how to prevent and resolve the impact of abnormal capital flows through precise measures.This paper finds that:First,when abnormal capital flows manifest as flight and retrenchment in the outflow direc-tion,the instability of the financial system significantly intensifies.Although the surge in capital inflows does not have a direct impact on the stability of the financial system,the sustained abnormal state has a reinforcing effect on the negative impact of future capital flights.Second,the impact of abnormal capital flows on the financial system stability is achieved by strengthening the contagion of risks within a country's financial system and changing the contagion structure of risks within the financial system.In the risk contagion network formed by abnormal capital flows,market sentiment is an im-portant driving factor for risk contagion,and the foreign exchange market is the main recipient of risk contagion.Third,precise control measures in the foreign exchange market(exchange rate intervention)and strict capital controls can effec-tively curb the negative impact of abnormal capital flows on the stability of the financial system.This paper proposes the following policy recommendations.First,efforts must be made to prevent large expansion and contraction in the direction of short-term cross-border capital outflows and to tighten monitoring of cross-border capi-tal flows under securities investment and bank loan projects.Second,policy authorities should strengthen their guidance on market sentiment,and stabilize market sentiment through expectation management and other methods to slow down the spread of risks within the financial system.Finally,we need to attach great importance to the crucial role of the stable operation of the foreign exchange market in maintaining the stability of the entire financial system.Timely exchange rate intervention can be used to resolve the instability of the financial system caused by abnormal capital flows.
Abnormal Capital FlowsRisk Contagion NetworkFinancial System Stability
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