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In “Interest Rates in the North and Capital Flows to the South- Is There a Missing Link?” by Eichengreen and Mody, the authors noticed and reconciled the mismatch between the qualitatively proven correlation between lender countries’ interest rate and borrower countries’ bond price, and the quantitative accounts showing little support for such correlation.

Although globalization of trade indicates that the world is increasingly related, I never expected that the internal fiscal decision of a country plays a big part in influencing how much loan another country can collect, which then determines how well this country can develop. Physical capital, though not the sole element of development as many economists have argued, is nonetheless crucial to the economic growth of a country. This is because people with however high human capital need enough tools and machines to work with so as to be productive. To have enough physical capital for development, a country needs money. Since a developing country is less likely to have enough money to purchase a sufficient amount of physical capital to reach the optimal equilibrium of production, foreign capital inflow is crucial for developing countries’ growth. When a developing country’s capital inflow falls significantly, and the country depends heavily on foreign loans, financial crisis can and has happened. Therefore, this article helps alarm developed lender countries that their decision to increase interest rate would discourage developing borrower countries from issuing new bonds and collecting more capital for development.

The awareness of developed countries that their internal decision to increase domestic interest rate may cause financial crisis in developing countries can lead to positive and negative consequences. Looking on the bright side, developed countries may be increasingly careful in forming fiscal policies since their decision not only affects people within their border, but also many outside. From a more pessimistic and politically realist perspective, however, developed countries may use the awareness to further exert influence and manipulation on developing countries, making them more reliant on their lenders and fostering more exploitations.

Countries with emerging markets should try to rely less on foreign debt so that they can avoid the possibility of economic crisis and general instability when lender countries’ interest rate changes. With less dependence on foreign debt, borrower countries can respond more quickly to interest rate changes and time their bond issues better to collect foreign loans more efficiently. Just as shown by the performance of East Asian fixed-rate bonds in the article, by borrowing less from abroad in general, borrower countries can maintain a relatively high bond price when the number of issuances inevitably drops. Such helps keep the capital inflow at a relatively stable rate, and thus interest rate fluctuation in the US and other lender countries would not cause major instability in East Asian economies. To avoid economic fluctuations a country have no control over, it should become less dependent on foreign debts.


In “Interest Rates in the North and Capital Flows to the South: Is There a Missing Link” by Barry Eichengreen and Ashoka Mody, the authors demonstrate that there is a statistically significant connection between the flow of capital to developing countries and the global interest rates. They find that as the interest rates of developed countries, such as the United States and Japan rise, the amount of capital that domestic investors are willing to invest in foriegn developing countries decreases and vice versa when interest rates in the developed countries fall.

One interesting take away I had from this was that often the development of a country is not in their own hands. I feel like, often, people will blame other countries for their own lack of development. While there are cases where it is fairly obvious that the main detriment to economic growth is an extremist ruler (or ruling party) that institutes governmental laws that wreak havoc to the economy, in some cases, like some countries in Latin America (who followed the prevailing economic theory of market liberalization in the Washington Accord), had lower than expected growth due to external factors. This paper shows that in some cases, the external factor of global interest rates can limit the possibility of growth before any new policy is even implemented. This could result in countries believing that the policies they implemented were poor policies, when these policies may actually would have been beneficial to growth, if they had been implemented in times of low global interest rates. These beliefs are held on a false assumption and could cause the government of the developing country to be reluctant to use policies that would be beneficial when there are low global interest rates, because when they tried them in the past, the policies failed. Furthermore, a country or other countries may compare the growth between two countries when they implemented similar policies, but at different global interest rates, and conclude potentially discriminatory beliefs about the general characteristics of the people of the lower performing country. This reminds me of the importance of being vigilant about the assumptions of models in economics.

Alec Horne

In the article, Interest Rates in the North and Capital Flows to the South: Is There a Missing Link, Eicengreen and Mody discuss the relationship of higher interest rates in the United States and the effect on bond prices in developing countries. As we know, interest rates and bond prices move in opposite directions. For this reason, it is not surprising that we see this effect on a global level. What is interesting to me is the misconception which can occur when analyzing a developing country which might face higher interest rates abroad. The result is less accumulation of capital in their own country when developing countries are more in need of capital in order to stimulate economic growth.

The takeaway here is the spillover effect on which US interest rates have on economic growth not just for developing economies but for advanced economies as well. Obviously, the effect is larger for developing economies which don’t have as much capital. In advanced economies, a rise in US rates of 100 basis points decreases GDP by 0.5% in advanced economies and 0.8% in developing economies (Iacoviello, Navarro). The results are similar to a monetary shock which occur inside the US. The result of a monetary shock in the domestic economy of the US reduces GDP by 0.7%. Higher interest rates in the US clearly effect countries differently due to three main factors. The exchange rate regime against the dollar, trade openness with the United States, and an index of external vulnerability (Iacoviello, Navarro). All of the factors vary from country to country with a large amount of the issue being out of the control for a developing country due to the effect the United States has on other economies investments.

The question here revolves around how we combat high interest rates in the US with developing economies who need increased amounts of investment in order to spur economic growth. If possible, developing countries should rely less on foreign investments in order to avoid possible economic crisis. This way, countries can better target their investments and avoid devastating economic situations which arises from the volatility of changing interest rates and bond prices.

Julia Moody

As we have discussed in class, financial institutions are extremely important in developing countries to facilitate borrowing, which increases savings, future income, and consumption smoothing. The paper “Interest Rates in the North and Capital Flows in the South: Is There a Missing Link?” delves into the ways financial institutions contribute to economic growth on a macro level. The authors conclude that looking at both the supply and demand sides of debt and global interest rates is important when studying how financial decisions affect the economies of developing countries. I found it interesting that none of the past studies on the bond market had results that agreed with one another. Although the studies used data from different countries and different demographics within some of the countries, I would have thought they would have still come to similar conclusions since from a purely conceptual standpoint, interest rate changes should have the same effects on bond markets regardless of the country. Both studies discussed in the paper analyze the effects of characteristics of countries and time periods on international bond prices. Not only were the results different, but the coefficients from each model had different signs, meaning the data in each study was telling us very different things.

The authors examined a new model to find more conclusive evidence on what factors affect spreads. I understood Equation 1, log(spread) = fX + u, and how it would show us what affects the spread. I found Equation 2, B’ = g(X’) + u, more difficult to comprehend because of the latent variable B. Does B' represent when the value of log(spread) surpasses a certain value? I am a bit confused about this, but I am glad the authors included both the “before” equation and “after” equation, showing that they took into account the bias that the first equation presented.

Lauren Paolano

In the paper, "Interest Rates and in the North and Capital Flows in the South: Is There a Missing Link?”, the authors, Barry Eichengreen and Ashoka Mody, take the approach to the market for international bonds which confirms that global credit conditions have had an important impact on the market for developing-country debt. There is a negative impact of higher U.S. rates on the demand by international investors for fixed-rate issues by Latin American borrowers, as predicted by the search-for-yield hypothesis.

The “search-for-yield” hypothesis in the Selectivity-Corrected Estimates section of the paper really caught my attention. The standard “search-for-yield” story in which higher U.S. yields encourage American investors to keep their money at home, which further widens the spreads and reduces capital flows by discouraging potential borrowers from issuing new paper. On the other hand, it was interesting to learn that higher U.S. rates induce Latin American borrowers and East-Asian floating-rate issuers seeking to minimise their debt-servicing costs to slide down their supply curves. This would most likely reduce the possibility of observing an issue as well as limiting the flow of new placements. So, a big question I have is how can we implement new standards that promote American investors to distribute their money to the public (in order to increase capital flow rather than the American investors deciding to keep their money at home?

Maisie Strawn

To be honest, I found some parts of this paper to be quite technical and confusing. I’m not sure I fully understand the concepts of launch and market spreads or the equation they used in the New Evidence section and it is totally possible that I misinterpreted parts of the paper because of this lack of understanding. However, the main takeaway of this paper seemed pretty clear: like most things we have discussed this year, the relationship between interest rates in industrialized countries in the global North and developing countries in the global South is more nuanced and complicated than at first it was understood. Although, interest rates in the global North are an important determinant in cash flows to the global South they are not the only factor and without understanding these other factors the relationship can become murky. It also reveals something we have discussed all semester, which is that developing countries (or people in developing countries) are not just patients, but rather actors in their own development. People in developing countries can see when U.S. interest rates are higher and chose not to issue bonds, which has been especially true of more stable East Asian countries. The differences between Latin American and East Asian countries was interesting, and I think pointed to the role of the economic conditions of the borrowing country in pulling cash from more developed countries. The differences between East Asian and Latin America countries pointed to another theme of this class, which is that institutions and historical context matter. Nothing happens in a vacuum.
In trying to better understand this paper, I attempted to do some outside research on U.S. interest rates and capital flows to developing countries. Although I did find some interesting articles, they were all pretty dated--mostly from the same time frame as this article about 20 years ago. I wonder how these issues have changed with both increasing globalization and the more recent trend of rising nationalism, especially in more developed countries. How/are foreign investment decisions affected by these political trends? Why was this such a popular issue in the late 1990s? I think historical context for this issue would be really interesting.
I also have a few lingering comments related to our discussion Tuesday. First, just as an interesting comparison to the extremely low default rates of microcredit, it is expected that 40% of American borrowers will default on their student loans by 2023 (https://www.cnbc.com/2018/08/13/twenty-two-percent-of-student-loan-borrowers-fall-into-default.html). It is interesting to think about all that underlies this comparison. Second, in my class period we talked a little about how microcredit is often used by people in developing countries to smooth consumption and how this phenomenon can be seen in the U.S. too (e.g. when people use credit cards to buy groceries). I found this to be a very stirring discussion because those Americans using credit cards to buy groceries were my own family during the recession. My dad works in construction, so the recession put a significant financial strain on my family. My mom routinely had to use credit cards to purchase groceries for our family. This finding then-that microcredit is useful to the poor in developing countries to smooth consumption shocks-was not surprising to me, but rather in-line with my own experiences. I find this to be another example of something we have talked about all year: that poor people in developing countries are just like everyone else and are making economic decisions and have motivations very similar to those of people in developed countries.


Eichengreen and Mody’s “Interest Rates in the North and Capital Flows to the South” empirically examines the effects of interest rates on different regions and between fixed- and floating-rate issues. Their research uses regression analysis to look at the magnitude and statistical significance of issue amounts and the U.S. treasury rate. A large part of the paper identifies the different effects in different regions. They explored how higher U.S. treasury rates increases bond issuance in Latin American countries but not as much in East Asian countries.

I found the historical “ability” for East Asian countries to “capitalize on favorable market conditions” particularly interesting. Earlier in the semester we discussed the exceptional and significant growth of the East Asian Tigers (Hong Kong, Singapore, South Korea, and Taiwan) in the latter half of the twentieth century. We talked a lot about how their growth came from export-led strategies. At the time I did not quite understand the implementation of this strategy. Now, the strategy makes sense under the context that they were making careful moves in regard to foreign relationships (exports and investment). I wonder what exactly prompted their effective methods?

We have also covered the struggle of Latin American countries to sustain ignited economic growth. This paper demonstrated the dependability of these countries on U.S. rates. Remembering that they moved towards ineffective liberalization and less of an export-led strategy than those of East Asia, I found it unsurprising that they saw a larger effect from changing U.S. rates. Again, I am curious as to the exact causes of this dependency (?) and wish the paper would’ve gone into more qualitative detail regarding this relationship.

Anne Riter

In "Interest Rates in the North and Capital Flows to the South: Is There a Missing Link?" by Barry Eichengreen and Ashoka Mody, the authors analyze data from different countries to come to the conclusion that there is a statistically significant correlation between interest rates in developed countries, like the United States or Japan, and capital flow to developing countries.
What sticks out to me when reading this article is that developed countries like the United States have such a large affect on developing countries. It's not entirely within a developing country's hands how fast it develops. When interest rates are high, the capital flow is small, and vice versa.
I will admit that I didn't quite understand the technical side of this paper, since I haven't had the necessary background in econometrics, and I've had very little statistics background; however, along with everything we've been talking about in this class and all the articles we've had to read over the semester, this article falls into the same category that the answer is "it depends." There isn't an answer as to how to best maximize capital flow to developing countries while maintaining interest rates, and there isn't an answer as to why the Asian Tiger countries were successful in capitalizing on favorable market conditions but Latin America was not. It depends.
What's most important is that the United States and Japan and other developed nations affect developing nations without meaning to, and that can have adverse affects on how developing nations progress and develop. Economic crises in the United States and Europe cause economic crises in developing nations. I would be curious to look into ways to protect developing nations from these adverse affects and ways to alleviate that dependency.

William Chapman

While reading the paper I immediately thought of the trilemma. This is the idea that a country can only have two of: Independent monetary policy, free flow of capital, a fixed exchange rate. Until the end of the Breton-Woods agreement ended in the 1970s most countries in the world chose to peg their currency to the US dollar which was subsequently pegged to gold allowing a relatively fixed exchange rate and forced countries to choose between allowing free flow of capital or using independent monetary policy. Early in the 20th century cross border capital flows were smaller, and this was easier to manage as the modern issues with hot money were not as prevalent. Since Breton-Woods is over, developing countries with economies relatively small now have to make the choice themselves for how they are going to protect their economies.

The paper discusses the potential capital flows related to treasury rates but we have also seen in recent years that investors look to the foreign equity markets and bet foreign currencies beyond the debt capital markets. I find the decision that these developing nations have to face very interesting. Many countries have found that they cannot responsibly use their own currency without risking large scale inflation and have pegged themselves to the dollar. This however leaves them vulnerable to interest rate fluctuations if they use monetary policy in an attempt to improve the economy or leaves them with their hands tied in the case of a recession. Additionally, they currency is still vulnerable to fluctuations between the peg and other currencies. This works well for the EU since exchange rate fluctuations are typically small but can be dangerous for smaller nations. Nations could also choose to control capital flows, but this would be a very dangerous idea except in extreme circumstances. We have spoken over and over about the necessity of capital in order to produce economic development and most nations should not try to limit capital if at all possible. Unfortunately, there are these unintended consequences which can undermine the effectiveness of providing capital to these counties. Foreign investors both public and private need to remain conscious of exchange rate implications and countries need to understand when too much capital is too much and consider slowing down the inflows.

Alice Chen

I'm going to admit I didn't quite understand many parts of the paper, but I'll try my best to talk about what I did understand. "Interest Rates in the North and Capital Flows to the South" discussed the relationship between industrial-country interest rates and capital flows in emerging markets. The authors found that as interest rates decrease, capital flows to emerging markets increased and vice versa.

I think this paper reinforces the idea that economic development is a system: actions taken in a developing country depend on the economic situation in a developed country, but historical and cultural influence also play a pivotal role. We already know that Asian countries did a significantly better job at economic development than Latin American countries, and Latin American countries are more dependent on other nations for aid. This keeps countries in a continuous trap where everything depends on the health of the industrialised nation.

Another thing I noticed as I read this paper was how outdated the sources were and I wonder if there are any modern examples that pertain to something I've actually lived through. I did think it was interesting on how the authors looked at lending in the 1920's after WW1. The Federal Reserve kept interest rates low, which encouraged Americans to invest elsewhere. But, this makes me wonder if there are other ways we can encourage people to invest elsewhere instead of simply lowering interest rates.

Margot McConnell

In Eichengreen and Mody’s article, they take previous studies one step forward to understand what many of those studies have previously overlooked. Many of these previous studies argue that interest rates, a proxy for global financial markets in advanced countries, are a determinant of capital flows in developing countries as well as the pricing of debt. However, what Eichengreen and Mody find is that this relationship is not as clear-cut as people first thought. These linkages been advanced countries and developing countries in terms of global finance is much more complex, and there are many factors that go into what we see in the real world.
This article really proves the complexity of finance, and some parts of the paper are definitely hard to understand for someone who is not well versed in finance. However, I have a few thoughts on international finance just from what we have learned in class and what I have learned in some of my other classes. Therefore, I am going to talk about what I understand in terms of finance and developing countries.
First, I think that this paper points out that within the realm of finance, there are many players, and everyone is “working together” in some sort of way because of the way cash flows work. I think this really emphasizes a point that I know we discussed on Tuesday and have in previous classes about the importance of the public sector. However, it is not just up to the public sector to do all of the financing, there has to be work within the private sector as well. In terms of microfinance, we discussed how microfinance has to be working on the same terms as the public sector in order to be executed properly. The idea of the private and public sector working together is important especially in developing countries. In class last Thursday, we discussed malaria and the burden that it places on communities and even countries. If malaria is to be eradicated, it has to be done through the work of both the private and public sector. The Bill and Melinda Gates Foundation does a lot of work to help with controlling malaria, but there needs to be more involvement at the public sector level from countries like the United States.
This idea of involvement of both the public and private sector also reminds me of the Spring Term class on the Sustainable Development Goals and how the 18th SDG was made up to be conservation finance. My part of the presentation focused on how the private and public sector can work together to create sustainable and renewable forms of energy which will have long term positive spillovers that will have more benefits that costs. The California school system was an example of this because they divested hundreds of millions of dollars from fossil fuel. New York also did the same in which it divested $200 billion of fossil fuel stocks. They planned to use this money towards creating more renewable forms of energy, which have long-term benefits. At the private sector level, Conservation International and The Global Conservation Fund are two big organizations that contribute millions of dollars a year into helping protect the environment. If the issue of climate change is going to be addressed, it has to be done through the work of both the private and public sector. A common misconception these days is that the private sector will figure it out, and there is no reason for the public sector to spend its money and be involved. However, many studies like some done at Stanford show the importance of public sector involvement as well. These ideas could be taken into developing countries to help solve some of its issues especially in terms of environmental issues.

Olivia Luzzio

Without a strong background in finance, I found Eichengreen and Mody’s article difficult to follow at some points. However, it was clear that lower interest rates in the U.S. tend to lead to more foreign lending. But since demand side factors also matter, it cannot be said distinctively that this is always the case. I found it discouraging that countries such as those in Latin American are forced to pay higher spreads because of economic volatility and troubled credit history. We have discussed at length the extent to which institutions matter in economic development, and specifically how poor financial institutions have prohibited Latin American from achieving sustained economic growth. Thus, high foreign interest rates make Latin American countries less likely to accept loans and prevents them from benefitting from credit.
I am interested to know how tariffs and trade agreements impact the potential of underdeveloped countries to benefit from the financial structure of developed countries. This article was published in 1998, and I am curious as to the position the authors would take on international finance in 2019. Furthermore, I believe this article underlines the dependency theory of development economics that we discussed several weeks ago. By framing the issue as the impact of interest rates in the North on capital flows to the South, the authors imply that developed countries above the equator such as the U.S. and those in Western Europe have a large role in the economic situations of developing countries below the equator such as those in Latin America and southeast Asia. As long as southern countries continue to rely on the financial and economic institutions of countries in the North, they will be unable to experience sustainable economic development.


Barry Eicengreen and Ashoka Mody’s article, “Interest Rates in the North and Capital Flows to the South: Is There a Missing Link,” investigates the relationship between global credit conditions and the market for developing country debt. One point that stuck out to me was that structural reform in the borrowing countries is often times a necessary component to the rise or fall of foreign lending. The question, however, is if interest rates in the lending countries matter more. Later, the article mentions that recent econometric studies contradict qualitative accounts attributing importance to industrial/lending-country interest rates. I’m not sure how to interpret these models and what they mean exactly, but it seems like there is some discontinuity between theory and practice.

Additionally, I thought that the parallel between the circumstances of lending in the 1970s and lending in the 1920s was interesting and supports a point that we’ve made in class before, which is that oftentimes, not enough weight is given to the history of economics and its tendency for trends to repeat themselves. In the 1920s, the Fed kept interest rates low to encourage American investors to invest abroad and help revitalize decimated European institutions after WWI. Then, the Fed sold government securities which decreased the money supply and decreased U.S. foreign lending. Similarly, in the 1970s, there were low real returns on investment at home, so investing abroad was the more appealing option. Then, there was less of an incentive for foreign lending once real interest rates rose. I would be curious to learn more about these trends and see how they relate to the financial crisis of 2008 and investment abroad.


This paper was captivating to me because in Macroeconomic Theory with Professor Davies we are currently working through the Mundell-Fleming model, which is the open market model of the economy in which the equilibrium for exchange rate is determined by the supply and demand for foreign currency. We have been working up to this model all semester by using the IS and LM curves, which is the prerequisite for the Mundell-Fleming model. The IS-LM model uses combinations of interest rate and income that result in equilibrium in the goods market and the money market. The Mundell-Fleming model also defines the balance of payments between two countries which is that Balance of Payments (BOP) = current accounts (CA) + financial accounts (FA) where current accounts is defined as Exports – Imports and the financial accounts is capital inflows – capital outflows. The paper relates most closely to the Mundell-Fleming due to its discussion of financial accounts as capital inflows and outflows are affected greatly by the interest rates of developed countries, especially the US. In the model, if there is a shock that brings down the interest rate in an economy (usually comes about with an outward shift in the LM or inward shift of the IS), this leads to a decrease in capital inflows and an increase in capital outflows as investors have less of an incentive to put their money into the domestic economy with a relatively low ROI. The opposite is true if the interest rate rises. I would like to know if this model is applicable to the interest rate fluctuations in this paper, as I never knew domestic changes in the interest rate could have impacts on the interest rates in developing countries, and it makes the Mundell-Fleming model even more interesting to study.

Parker Skinner

Eichengreen and Mody's article attempts to address what they have deemed as incomplete studies on what drive capital flows. The previous conceptualization that capital flows can be determined by interest rates is proven to be limiting. It works to an extent, yet there must be other factors involved. This article suggests that it is not only demand for bonds by foreign investors, but also the supply of these bonds by developing nations. Additionally, differences between regional perceptions and fixed and floating rates must be taken into consideration when analyzing capital flows. There is a lot of “it depends.”
I find the conclusions of the paper to be predictable. Simply relying on interest rates to model a globalized market ought to include plenty of it depends results. I would like to know more about where this leaves the global path to development. The paper analyzes Latin America and East Asia, but not Africa. This is most likely due to the existence of historical data and the previous financial crises that have occurred in these regions. Africa may well be key to the development story as populations on the continent continue to boom (Nigeria will pass US population by 2045) and China increases their foreign direct investment (FDI). While the US decreased FDI by $11 billion from 2013 to 2017, China increased theirs by $17 billion.

Kenza Amine Benabdallah

To be frank, I found the paper « Interest Rates in the North and Capital Flows to the South: Is there a missing link?” by Eichengreen quite confusing and I had a hard time understanding it. This paper reconciles the findings of mathematical that emphasized on the state of global financial markets as a determinant of capital flows to emerging markets with econometric studies relying on disaggregated data that have found very little support to that theory.

From this paper, there are three major takeaways: 1. Both the supply and demand sides of debt are important when studying how financial decisions affect the economies of developing countries. 2. global credit conditions have also had an important impact on the market for developing countries’ debt. 3. Higher interest rates in the major money centers have a negative impact on the borrowers’ issue decisions.

I thought that the most interesting part of this paper was when he talked about how higher interest rates in the US affect different countries in many different ways. I knew that it would have an impact on developing countries that have dependent economies but I sure wasn’t aware of the impacts it had on stronger economies.

Lucas Flood

The article demonstrates the unfortunate trend of highly industrialized, high income countries disproportionately impacting the economies of developing nations. While the impact is not as drastic as the colonialism of recent history, the fact remains that economic policies instituted in developed nations, such as the United States, can have substantial impacts on the economies of developing nations. The end result, unfortunately, is that developing nations often do not possess the necessary agency to implement positive reforms.

Barry Eichengreen and Ashoka Mody do an excellent job analyzing econometric data in a supply and demand framework to demonstrate the importance of U.S. financial policy. From the perspective of macroeconomic reasons to raise interest rates, it is fascinating to think that strong economic growth in the United States would lead to higher interest rates, thus limiting loans to borrowers in developing nations. Without loan availability, economic growth through entrepreneurship, investment in research and development, and job creation is limited in developing nations. This conclusion is fascinating, simply because it flies in the face of the concept of economic growth benefiting everyone, all over the world.

In regards to Eichengreen and Mody’s specific findings, it was interesting to read that “there is a tendency for relatively poor credit risks to drop out of the market in periods of relatively high U.S. rates.” As we have discussed throughout the semester, when challenges face a particular economic system, the first casualties are the most vulnerable members of society. Oftentimes those individuals first impacted are the very individuals who would benefit the most from economic involvement. In developing nations, individuals with low credit scores (potentially because loans have not been available in the past, eliminating many opportunities to raise credit) most likely are already disadvantaged in the society as a whole (women, minorities, and individuals trapped in the lowest income brackets).

In my opinion, the impact of Eichengreen and Mody’s work, therefore, is that further opportunities for microcredit should be insulated from swings in interest rates in developed nations as much as possible. Without such an approach, the benefits of microcredit could be limited in the same ways that Eichengreen and Mody argue regular loans are limited when interest rates rise in the United States.


I found this paper about the relationship between interest rates in developed nations and capital flows in emerging markets very interesting and directly related to my International Finance class and specifically my research paper topic for that class. My research paper focuses on the Asian Financial Crisis and specifically what caused Thailand to begin the contagion the spread throughout the rest of the region. As we read about briefly in an earlier paper about institutional barriers Thailand was the fifth Asian Tiger and had the highest growth rate in the world from 1985-1995 at 10% per annum. This was largely supported by high domestic savings rates and similarly high net capital inflows into the country. In fact, in the three years preceding the crisis capital flows with adjusted debt averaged nearly 7% of GDP and averages $14 between 1990 and 1996. The investment to GDP ratio had reached an astounding 41% by 1996. Capital inflows of such magnitude were attributed to many factors but mainly the spread of interest rates with the Eurodollar market (reaching 6% on one-month maturity notes by 1996), the higher expected returns in Thailand, the outflow of capital from Japan, Taiwan, and Hong Kong due to decreasing price competitiveness, and confidence in fiscal and monetary authorities. The level of capital inflows, which can be attributed to the desire of foreign investors seeking return, led to an unsustainable amount of investment in the country. The nation’s economy was simply not mature or regulated well enough to handle such large capital inflows. As a result much of the money was short-term debt and portfolio investments rather than FDI (investment in real and tradeable goods). Such speculation largely took place in the real estate sector where a massive asset bubble was created, fueled by blind optimism of foreign investors. As a result of such sudden and large capital inflows investment was largely consumptive and focused on non-tradeable domestic sectors. Coupled with a consistent CA deficit the sustainability of such activities was not possible as the repayment of foreign currency denominated debt became increasingly difficult as exports slowed, due in part to the non-productive investment. As interest rates in the developed world rose and the confidence in the maintenance of the pegged exchange rate eroded, investors pulled their money out resulting in a massive loss of confidence and the financial and currency crisis. In the hunt for return investors poured money into East Asian countries thinking the good times would keep rolling. Risk premiums are an important factor. As developed markets interest rates rise the risk premium for developing nations may not be high enough leading to capital flight, like what happened in Thailand.

Kristina Lozinskaya

I will be honest with you: this paper is one of the most complex papers I have ever read. I’m not big on finance, and all the talk about yields, rates, bonds, “putting upward/downward pressure on spreads,” “capital account liberalization,” “retention of controls on capital inflows,” etc., leaves me with a lot of questions, mainly because of the terminology with which I am not yet as familiar as I would like to be. However, I did my best to understand the paper, and it was interesting to get exposed to something with which I have never dealt before (especially if you consider the fact that I come from a country where people prefer to put their money in a jar and hide it in a wardrobe instead of opening savings accounts in banks where they mainly go to get their cash transferred onto a debit card when they need to make a purchase online or something).

So while I’m hoping that in class, we will be putting the flowery text in the paper in simpler, more relatable terms, as I have understood for now, the authors of the paper conduct regression analysis on certain countries and obtain what they sometimes call “intuitive” results that support the argument made by the members of the external-factors camp thus undermining most of the recent literature that hardly gives external determinants their dues. The reason why the previous studies are misleading is that they do not distinguish the supply- and demand-side effect related to the interest-rate response. What I thought was interesting is that they investigated the capital flows to emerging markets in Latin America and East Asia going back in time, so from the nineties to the post-WWI period. Much of the literature on those 20th-century episodes emphasizes the role of the interest rates in the United States and other money centers in the sudden shifts in the volume of international lending without trying to analyze how important this is relative to the economic conditions in the developing countries. This paper, however, maintains that “global credit conditions have had an important impact on the market for developing-country debt,” concluding that higher U.S. rates negatively impact the demand by international investors both for fixed-rate issues by Latin American borrowers and for floating-rate issues for East Asian ones. One of their related findings that is of interest to me is that because “historically, the economies of East Asia have been less heavily indebted, less dependent on external finance, and more able to respond flexibly to changes in global credit conditions,” in the fixed-rate case, they have the ability to time their issues to restrict supply to coincide with favorable market conditions. One is really gotta give it to those skillful Asians!

But once again, at this point, the big obvious conclusions are all that I can draw from this paper, not even mentioning the fact that the regression analysis discussed has left me absolutely horrified about my Econometrics class next semester! Anyways, I am looking forward to discussing this paper in more detail!

Christopher Watt

Eichengreen and Mody’s paper “Interest Rates in the North and Capital Flows to the South: Is There a Missing Link?” offers some interesting thoughts on the implications of interest rates in the most developed countries for developing/emerging economies. Conveniently, I recently was introduced to the Mundell-Fleming Model in Macroeconomic theory which has direct ties to this subject. According to the model, capital inflows are directly related to a nation’s domestic interest rate. Conversely, foreign interest rates, particularly in a specific economy, is a determinant of a nation’s capital outflows as investment in the foreign economy becomes more appealing as its interest rate or return on investment rises.

I would like to echo a thought considered in other students’ blog post: the recognition that the well-being of an emerging economy may be largely out of its hands as foreign investment plays a large role in capital development and economic growth. Foreign direct investment can lead to increases in output and economic expansion, as noted by “The Balance”: https://www.thebalance.com/what-is-foreign-direct-investment-1979197
This article briefly describes some of the benefits and drawbacks of FDI, largely tied to interest rates. Though the paper notes that the effect of foreign interest rates on capital flows and credit in emerging economies may be heavily dependent on region and fixed vs. floating -rate differences, it holds that the amount of outside investment an emerging economy receives may be dependent on its returns for an investor, often in comparison to the returns that investor could receive from putting capital into another economy if not its own if the interest rate is higher. This takes a lot of control out of the economy’s hands to determine how others invest.

A side thought considers some motivations for economic development: are investors (both private or governments) seeking to poor capital into an economy to improve its strength and well being of the people whom are a part of it, takin more the form of foreign aid/philanthropy, or do individuals, governments, and corporations see opportunities to invest in emerging economies as a means of their own capital development and wealth accumulation? It seems that there are positive externalities to foreign investment regardless of the motivation in the forms of economic development and growth.

Sofia G. Cuadra

In “Interest Rates in the North and Capital Flows to the South: Is There a Missing Link?”, Eichengreen and Mody discuss the impact on U.S. interest rates on capital flows to emerging markets and the pricing of external debt. Before reading this article, I never considered the impact that U.S. interest rates at home had on investments abroad, but the further I read the article, the more the idea seemed to me as extensively reflexive of behavioral economics. The impact proved evident for Latin American fixed-rate issues as higher U.S. interest rates reduced the incentive to invest abroad and instead pushed potential investors to keep their money at home. The demand for bonds then decreased and discouraged potential borrowers from issuing further bonds. These series of events can pose a challenge for developing regions, such as Latin America, who become desperate to borrow money for debt-reducing purposes.

Nonetheless, I do want to point out that U.S. interest rates may not represent the only factor impacting the flow of investments to emerging markets. I believe that the sociopolitical factors in regions where emerging markets exist play an important role in promoting or deterring investments. For example, if a country has a corrupt and unstable government set in place, I know that I would be way more hesitant to invest in that given country (as through buying bonds) because of the fear that the government may default and never pay back the bond. Consequently, there has to exist some level of a reliable financial institution capable of enforcement. If governments can offer some form of reassuring investors then maybe these emerging markets may be better capable at sustaining their development.

Prakriti Panthi

I hadn't really considered the complexity regarding the push and pull factors in international capital until I read this weeks paper by Barry Eichengreen and Ashoka Mody. With the intermediate macrotheory knowledge I have, I knew that interest rates determined the capital inflow and outflow to and from a country. So the argument that the higher interest rate in the North leads to less capital flows to the south made sense. At the same time, we learn that investors are also concerned with risk, capital mobility and economic condition. But as the paper discusses, we don't really know how to assign weight on what is more important. And like we discussed with the past papers, we can't conclusively deny the effect of something on our outcome when we can't do a properly randomized experiment. Especially when we see a dichotomy in what we know qualitatively and what statistical analysis tells us, I think regardless of what numbers tell us, we should be wary of the conclusions we make.
I also wonder, in the case where studies in the future find conclusive evidence that rates in the North impact capital inflows, what kind of policies (alongside capital inflow taxes) can go in effect to benefit the developing countries? The paper mentions the role of the IMF, but I wonder what that would look like. Additionally, because the North is also susceptible to economics shocks that change interest rates drastically, and in this capitalistic world people have their own profit maximization in mind, so how depended should a developing country be on the North?
Another big finding of this paper was the importance of looking at both the supply and demand side to understand the relationship between the north and the south. Countries in the south issue less bonds at a time of high interest rate, driving up the bond prices. Can and should policy intervene to diminish the effect of this? This just highlights the complexity of the question that we are looking at. There is not a straight forward answer to big economics questions and everything is so contextual.

Caroline Florence

“Interest Rates in the North and Capital Flows to the South: Is there a Missing Link?” by Eichengreen and Mody explains how raised interest rates in developed countries have a negative impact on capital flows in developing countries. I found this article confusing, and though I think these are important findings, I was not able to fully comprehend the study. What I took from the article is the importance of realizing the impact the US economy has on the global economy. When the Federal Reserve makes decisions about whether to raise or lower interest rates, this affects not just the US economy, but economies in Latin America. It also made me realize that countries in Latin America do not have full control over their capital flows. This makes economic development especially challenging and can lead to a “trap.” It is difficult for developing economies to sustain growth when they are heavily influenced by foreign economies. Does the Fed think about this when making decision, or is their primary concern the US economy? Is there a way for the US to raise interest rates without negatively impacting foreign economies? I feel that we have some sort of responsibility to mitigate any negative impact we may have on developing economies.

Since this article was last revised in 1998, I am curious as to how relevant it still is today. What impact did the most recent decrease in interest rates have on Latin American countries? Although there may be a temporary positive impact in Latin America, what will be the long-term impact?


In the paper, "Interest Rates and in the North and Capital Flows in the South: Is There a Missing Link?”, the author lays out the idea that as US interest rates increase foreign investments do down. A couple things stuck out to me while reading this. The first being that they're are many underlying factors that can contribute to the foreign investments going down that are not pointed out clearly. The underlying theme that most of these papers have laid out is the fact that these developing countries have so many different factors holding them down that are out of their control that is almost seems impossible for them to ever succeed into a developed country. The fact that global credit conditions have had an important impact on the market for developing country debt is just one of many issues developing countries have to overcome. It seems like if one thing isn't holding a developing country back something else is and this cycle is just continuous until when though?
Most of the findings and evidence from this if not all are from the 1900s and dated. I am curious to what some current examples may be or current findings in 2019.
I also was very confused by a lot of what the paper was getting at but the one point I did clearly notice was the fact that developing countries do not control their own fate in many ways and what can be done to change that? Is there anything that can be done? Things countries like the US and Japan are doing effect developing countries in more ways than one so there isn't a clear answer to the question. All that can be done is tackle one issue at a time but I really do not know how it is possible to get these developing countries out the never ending cycle of failure.

Adrian Lam

At first, I found that it was difficult to fully understand this paper by Eichengreen and Mody because I was not too familiar with some of the terms they used. After doing a little research and reading through some blog posts, I think I was able to get some of the major takeaways. For other classmates who may have been confused by some of their technical terms, here are some resources from Investopedia on the basics of capital flows and yield spreads that helped me understand the paper a little better. ( https://www.investopedia.com/terms/y/yieldspread.asp + https://www.investopedia.com/terms/c/capital-flows.asp )

I found that dependency theory, which we discussed during our unit on development economic theories, to be quite relevant to our discussion here. This paper contained similar ideas that emphasized a nuanced, codependent relationship between developed and developing countries. Specifically, I thought of the North-South paradigm, wherein countries from the Northern hemisphere take advantage of countries from the Southern hemisphere.

The purpose of Eichengreen and Mody’s paper was to determine whether industrial country interest rates affected the spread of bonds in markets from developing countries. Although previous papers had claimed that these interest rates did not have significant effects on the bond spreads, Eichengreen and Mody demonstrated that there was more to the picture. The setup of this paper reminds me of Bauchet et al.'s microfinance paper that we discussed on Tuesday. When Duflo et al. published their paper demonstrating how microfinance institutions do not necessarily lead to direct positive effects on health/women’s empowerment/education, the media misinterpreted the results to indicate that microfinance was a “failure.” Just like how microfinancing had subsidiary effects that were overlooked, like altering how income was spent, the effects of interest rates in the North on capital flows to the South were not explicitly clear. For example, U.S. treasury rates could have affected the “volume and compositions of international lending,” and previous papers may have overlooked this when they only examined the price of the bonds and not the balance between supply and demand responses.

One of the most interesting takeaways that I got from this paper was how U.S. interest rates could (indirectly) impact the life of a foreigner, who is living thousands of miles away. Based off of another country’s treasury rates, his decisions involving borrowing and saving could be altered. It is crazy to me to think just how interconnected we all are as humans of this planet, which reminds me of the endogeneity effects we always discuss.

Finally, this paper reminded me of a simulation I completed in my organizational behavior business class, where we played the roles of representatives from different OPEC (Organization of the Petroleum Exporting Countries) countries. In this simulation, the amount of oil we produced and our income was interlinked with the output of other countries. In this manner, it created an intricate, realistic situation that mirrors the real-world, where we should be mindful of how our country's decisions can affect others.

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