Federico, PabloVegh, Carlos A.Vuletin, Guillermo2013-04-122013-04-122013-03https://hdl.handle.net/10986/13184A large literature has argued that different types of capital flows have different consequences for macroeconomic stability. By distinguishing between foreign direct investment and portfolio and other investments, this paper studies the effects of the composition of capital inflows on output volatility. The paper develops a simple empirical model which, under certain conditions that hold in the data, yields three key testable implications. First, output volatility should depend positively on the volatilities of both foreign direct investment and portfolio and other inflows. Second, output volatility should be an increasing function of the correlation between both kinds of inflows. Third, output volatility should be a decreasing function of the share of foreign direct investment in total capital inflows, for low values of that share. The data provide strong support for all three implications, even after controlling for other factors that may influence output volatility, and after dealing with potential endogeneity problems. These findings call attention to the importance of taking into account the synchronization and composition of capital flows for output stabilization purposes, as opposed to just focusing on the volatility of each component of capital flows.en-USCC BY 3.0 IGOADVANCED ECONOMIESAFFILIATED ORGANIZATIONSAMERICAN DEVELOPMENT BANKBENCHMARKBONDBUDGET CONSTRAINTSCAPITAL ACCOUNTCAPITAL CONTROLSCAPITAL FLOWSCAPITAL INFLOWSCAPITAL STOCKCOMMODITYCOMMODITY PRICESCOST OF CAPITALCOUNTRY RISKCURRENCYDATA AVAILABILITYDEBTDERIVATIVEDERIVATIVESDEVELOPING COUNTRIESDEVELOPING COUNTRYDEVELOPMENT ECONOMICSDEVELOPMENT POLICYDISCOUNTED VALUEDIVIDENDSDOMESTIC SAVINGDUMMY VARIABLEECONOMIC GROWTHECONOMIC INSTABILITYECONOMIC OUTLOOKECONOMIC RESEARCHEMERGING ECONOMIESEMERGING MARKETEMERGING MARKET ECONOMIESEMERGING MARKETSEMPIRICAL GROWTH LITERATUREEQUAL SHAREEXPECTED VALUEEXTERNAL FUNDINGEXTERNAL SHOCKSFINANCIAL DEREGULATIONFISCAL POLICYFOREIGN ASSETSFOREIGN DIRECT INVESTMENTFOREIGN DIRECT INVESTORSFOREIGN INVESTORSFOREIGN OWNERSHIPFORMAL ANALYSISGOVERNMENT SPENDINGHIGHER VOLATILITYHOLDINGINCOMEINDUSTRIAL COUNTRIESINDUSTRIAL ECONOMIESINSTRUMENTINSTRUMENTAL VARIABLESINSURANCEINTERACTION TERMSINTEREST RATESINTERNATIONAL BANKINTERNATIONAL CAPITALINTERNATIONAL COUNTRY RISK GUIDEINTERNATIONAL ECONOMICSINTERNATIONAL FINANCIAL STATISTICSINTERNATIONAL INVESTORSINTERNATIONAL SETTLEMENTSINVESTMENT RISKLENDERSLOANLONG-TERM INTERESTLONG-TERM INTEREST RATESMACROECONOMIC POLICIESMACROECONOMIC STABILITYMACROECONOMIC VARIABLESMACROECONOMICSMARGINAL PRODUCTIVITYNATIONAL BANKNET FOREIGN ASSETSOPEN ECONOMYOUTPUTOUTPUT VOLATILITYOVERALL VOLATILITYPOLICY RESPONSEPORTFOLIOPORTFOLIO CAPITALPORTFOLIO DEBTPORTFOLIO INVESTMENTPORTFOLIO THEORYPRIVATE CAPITALPRIVATE CAPITAL FLOWSPRODUCTION FUNCTIONREAL GDPREPAYMENTREPAYMENT OF PRINCIPALREVIEW OF ECONOMICSRISK SHARINGSAVINGSSHORT-TERM BORROWINGSTANDARD DEVIATIONSTANDARD ERRORSTRADE CREDITSVOLATILE ECONOMIESVOLATILITIESVOLATILITYVOLATILITY MEASURESWEALTHWORLD MARKETWORLD MARKET INTEGRATIONWorld Bank10.1596/1813-9450-6386