Sunday, May 25, 2014

Many observers expect the Fed's imminent policy tightening cycle to weigh on portfolio flows to emerging markets in coming years. The analysis presented in this paper offers a different view, arguing that it is the surprise element of monetary policy that affects EM portfolio inflows. A shift in market expectations towards easier future U.S. monetary policy leads to greater foreign portfolio inflows and vice versa. Given current market expectations of sustained increases in the federal funds rate in coming years, EM portfolio flows could be boosted by a slower pace of Fed tightening than currently expected or could be reduced by a faster pace of Fed tightening.