Higher for (a bit) longer, but don’t buy into inflationista hype.
I wrote recently that emerging market sovereigns considering new issuance should be ready for Federal Reserve rate cuts in 2024, despite the hot Q1 inflation prints. The point is that core goods inflation has all but disappeared from the consumer price index and that core services inflation is concentrated in the transportation services segment, particularly motor vehicle insurance. The rise in car insurance costs in the US is a structural change, and the base effect will be locked in before long.
This inflation stickiness in transportation services is a lingering effect of Covid supply chain disruptions. Although these have lasted longer than most expected, they won’t last forever and will be resolved eventually. Juxtapose that point with data out of the San Francisco Fed that measures volume dynamics to gauge whether price rises are supply- or demand-driven. Supply is currently driving inflation, which confirms the CPI narrative around motor vehicle services.
This week of course Jerome Powell signaled that rates would be staying higher for longer. This makes good sense given higher Q1 inflation following his (overly) dovish remarks in December that markets interpreted (too) exuberantly.
One-to-two rate cuts are still priced in for this year, and any talk of new rate hikes are overblown. Powell himself said this week that a rate increase would be “unlikely.” Moreover, the Fed is slowing down its quantitative tightening program, lowering the monthly cap on US Treasuries it rolls off its balance sheet from $60bn to $25bn. So rates may be higher for longer than expected amid all the December-January euphoria, but the wind is still blowing in an “easing” rather than in a “tightening” direction.
There are other reasons that declining inflation and lower rates are likely in store later this year. Monetary policy has a lag time, so the restrictive stance that has been in place for the past few years will continue to work through the economy. There is also a post-Covid negative potential GDP trajectory gap, a point that my former colleague Robin Brooks makes. In fact, I’m hardly alone on this: see Claudia Sahm on the Covid hangover and Brian Levitt of Invesco on transportation services.
I’ll get back to more of a direct focus on emerging markets next week, but it’s important for EM watchers to keep an eye on the elephant in the room as well. Those developed market policy rates tend to have statistically significant negative relationships with capital flows to and from EM. Besides, Sovereign Vibe is also about global macro!
Debt management offices in emerging market finance ministries should be prepared for Fed rate cuts.
Emerging market sovereign debt issuance started 2024 off strongly with record-breaking issuance in January at ~$47bn and another ~$16bn in February, marking the highest January-February result since before the pandemic. Sub-Saharan African sovereigns even returned to the Eurobond market, with Côte d’Ivoire leading the way and Benin placing a debut issuance. Larger players including Saudi Arabia, Mexico, Indonesia, Hungary, and Romania made placements as well.
With borrowing costs having immediately fallen in the wake of Federal Reserve Chair Jerome Powell’s dovish comments on US inflation in December, the start-of-the-year timing for issuance was savvy given renewed concerns since March around higher-for-longer interest rates. With the 10-year US Treasury yield having climbed nearly 600bps since early March and the dollar also strengthening, debt management offices have likely become more circumspect regarding US inflation and the Fed.
The fading prospects of US rate cuts before H2 haven’t put a halt to activity this April out of Abu Dhabi and, more absurdly, El Salvador. And other debt management offices, including Tanzania, are also considering Eurobond issuance. Apparently EM sovereigns have issued about $93bn so far this year, which means about $30bn for March-April. These are still big numbers, but nothing close to that fast start in January.
Friday’s US inflation print came in hotter than expected, fueling ongoing concerns that rates will have to stay high for a while yet. The Fed’s preferred metric is core personal consumption expenditures (i.e. ex-food and energy), which rose 2.8% year-over-year in March – a third high monthly reading in a row. But digging through US data shows that the Fed may yet bring inflation lower soon. Looking at the consumer price index provides more granularity than is easily available through PCE, though it measures slightly different things.
In any case, it’s clear that almost all price pressures are emanating from services, with core (i.e. ex-food and energy) goods inflation having even turned negative. Within services, the largest component is shelter, which is often the case historically as well, but shelter inflation has moderated significantly over the past several months.
The main inflationary challenge is actually in the transportation services segment, which accounts for the lion’s share of services ex-shelter inflation. Within this category, motor vehicle insurance prices have been surging, e.g. 22% y-o-y in March, due to lingering Covid-era supply chain effects, changing car technology, higher car prices, and higher repair costs. It is likely that these factors are now locked in and will not rise much further, if at all. With the high base effect is now baked in, transportation services inflation will almost certainly fade over the coming months.
The upshot is that emerging market DMOs should expect US inflation to moderate over the coming months and for the Fed to cut rates at some point this year – and perhaps sooner rather than later. So I wouldn’t be surprised to see a pick-up in EM issuance again this year, though investor demand may be more for EM IG than for EM HY. Whether it’s wiser to place a Eurobond or a local currency bond, and whether offices should hedge their currency exposure in the former case is another matter. In the meantime, let the roadshows begin?
As global markets grapple with the prospect of higher rates for longer, it’s important to keep an eye on another important potential headwind: the direction of worldwide central bank asset purchases.
Without delving too deeply into the history of unconventional monetary policy, post-Global Financial Crisis the world’s major central banks implemented quantitative easing programs. This meant buying government bonds as a way to further support recovery by injecting cash into the economy. As a result, central bank balance sheets expanded significantly.
All the extra liquidity swilling around as a result of these purchases clearly has an impact on markets. When central bank buying decreases, this often seems to coincide with challenging periods for the S&P500, the MSCI All-World Index, and others. For example, 2018 and 2022 saw poor market returns, just as central bank asset purchasing was dipping in to negative territory, as presented in the chart below.
Looking at the balance sheets of major central banks, purchases of total assets are simply any changes from one period to the next. I’ve chosen a 12-month rolling window to show you annual purchases each month here.
Central bank buying was positive throughout much of the 2010s, hovering around $2.5tn year-on-year over 2016-2018, before turning negative in late 2018 and most of 2019. Annual purchases then skyrocketed to nearly $10tn during the pandemic, amid market ebullition from H2 2020 until the Omicron Covid variant dampened sentiment in November 2021 .
Since Q2 2022, annual central bank asset accumulation has been negative, reaching a nadir of some -$3tn in H2 of that year, which was a rough one for most asset classes. From late 2022 and through most of 2023, net buying headed back towards positive territory, with last year witnessing strong, broad-based returns.
In 2024, purchasing is starting to decrease again, which would be a negative signal for markets if the trend is confirmed. This tighter stance aligns with the likelihood that the Fed will keep rates at current levels for much of the year and the Bank of Japan allowing short term rates to increase when it abandoned yield curve control last October.
However, there may be a silver lining for markets. Weak growth and low inflation prints in the Eurozone are likely to lead the ECB to cut rates in 2024. While the ECB may not abandon the quantitative tightening program launched in March 2023, it is unlikely to ramp it up at a time when it needs to loosen policy. This is especially true since it has managed to reduce its balance sheet from €8.8tn in 2022 to around €6.6tn today, as visualized in dollar terms below.
FX fair value estimates for eight EM Asia economies point to more over- rather than under-valuation across the region…
…so the real depreciations registered by most of the region’s currencies last year has pushed many (but not all) towards fair value.
Inflation differentials are now playing a larger role in determining REERs compared to the pre-pandemic era.
Currencies in emerging markets Asia mostly declined in real terms in 2023. Pakistan registered the sharpest real exchange rate depreciation, though China also weakened significantly on the back of much less inflationary pressure in the country relative to its trading partners.
REER trends in EM Asia
Of the eight EM Asia countries covered below, only the Philippine peso and Korean won strengthened in real terms in 2023, though the Singaporean and (possibly) Hong Kong dollars were also in positive territory for the year.
For each country, I provide a chart that breaks down the contributions of to the real exchange rate:
The nominal effective exchange rate: Remember that “effective” implies a trade-weighted calculation against all trading partner currencies.
Inflation differentials: This indicator looks at the month-on-month changes of the ratio of the domestic country’s consumer price index versus the trade-weighted CPIs of its trading partners. A positive (negative) differential means that the domestic country is experiencing higher (lower) inflation than its trading partners are.
As for fair values, those are covered in the next section of this post.
China: The yuan depreciated by around 7.5% in real terms in 2023, on the back of two years of mild appreciation. Despite some nominal weakening, it is mostly inflation differentials driving the real depreciation, as deflationary pressures in the Middle Kingdom stand in marked contrast to the rising prices experienced by its trading partners in recent years.
India: The rupee experienced a real depreciation of about 3% in 2023 against its trading partners. Comparatively low inflation and some nominal currency weakening in H2 were both at play.
Pakistan: The rupee declined by around 8% in real terms in 2023, following a smaller drop the previous year. The decrease in nominal effective terms was even larger, as inflation in Pakistan was higher than that of its trading partners for the entire year.
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FX fair value estimates for eight EM Asia economies point to more over- rather than under-valuation across the region…
…so the real depreciations registered by most of the region’s currencies last year has pushed many (but not all) towards fair value.
Inflation differentials are now playing a larger role in determining REERs compared to the pre-pandemic era.
Currencies in emerging markets Asia mostly declined in real terms in 2023. Pakistan registered the sharpest real exchange rate depreciation, though China also weakened significantly on the back of much less inflationary pressure in the country relative to its trading partners.
REER trends in EM Asia
Of the eight EM Asia countries covered below, only the Philippine peso and Korean won strengthened in real terms in 2023, though the Singaporean and (possibly) Hong Kong dollars were also in positive territory for the year.
For each country, I provide a chart that breaks down the contributions of to the real exchange rate:
The nominal effective exchange rate: Remember that “effective” implies a trade-weighted calculation against all trading partner currencies.
Inflation differentials: This indicator looks at the month-on-month changes of the ratio of the domestic country’s consumer price index versus the trade-weighted CPIs of its trading partners. A positive (negative) differential means that the domestic country is experiencing higher (lower) inflation than its trading partners are.
As for fair values, those are covered in the next section of this post.
🇨🇳 China: The yuan depreciated by around 7.5% in real terms in 2023, on the back of two years of mild appreciation. Despite some nominal weakening, it is mostly inflation differentials driving the real depreciation, as deflationary pressures in the Middle Kingdom stand in marked contrast to the rising prices experienced by its trading partners in recent years.
🇮🇳 India: The rupee experienced a real depreciation of about 3% in 2023 against its trading partners. Comparatively low inflation and some nominal currency weakening in H2 were both at play.
🇵🇰 Pakistan: The rupee declined by around 8% in real terms in 2023, following a smaller drop the previous year. The decrease in nominal effective terms was even larger, as inflation in Pakistan was higher than that of its trading partners for the entire year.
FX fair value estimates for 13 economies across LatAm at end-2023 underscore the idiosyncrasies of recent current account dynamics in the region…
…while also highlighting V- and L-shape nominal performance against USD since the pandemic in several countries,…
…even as the inflationary spike in ~2022 continues to abate across the main economies covered below.
As in other parts of the world, several Latin American economies saw their real exchange rates weaken during the pandemic only to rebound sharply amid the global inflationary shock. This v-shape trajectory of LatAm REERs is most evident in Peru and Costa Rica but is also visible to varying extents in Brazil, Colombia, the Dominican Republic, Mexico, and Panama.
REER trends in LatAm
In nominal terms against the dollar, the main currencies in the region weakened during 2020 before strengthening to varying degrees in the years since. Inflation was generally around the 2% mark in these economies in 2020 before peaking in 2022:
🇲🇽 Mexican peso: after dropping sharply during the early pandemic, the peso had mostly recovered by early 2021 and traded flat until October 2022. Since then, it has strengthened significantly, despite some wobbles circa October 2023. Inflation rose from 2% in 2020 to ~8.5% in 2022 before declining to the 4-5% range in 2023/Q1 2024.
🇧🇷 Brazilian real: weakened significantly in H1 2020 and has traded between flat and very moderate strengthening since. Inflation rose from 2% in 2020 to 12% by early 2022, and has remained mostly in the 4-6% range since late 2022.
🇨🇴 Colombian peso: a sharp drop in March 2020 before almost recovering by the end of the year. Then steady weakening until June 2022, when it dropped sharply, followed by a strong recovery throughout 2023. In early 2020, inflation stood at 4% but declined to sub-2% that year, before beginning to rise in H1 2021, culminating in a peak above 13% in late 2022/early 2023 and since declined to the 8-10% range.
🇨🇱 Chilean peso: came under pressure in March 2020 but only after having experienced a sharper drop in late 2019, so its decline during the pandemic coincided with a pre-existing weakening trend. By May 2021 it had more than recovered the early-pandemic weakness, then steadily weakened to October 2022. Subsequently, it bounced back in mid-2023 before declining again. Inflation hovered in the 2-4% range in 2020 before beginning a long steady rise from 2021 onwards, peaking at 14% in 2022 and declining to circa 4% by end-2023.
🇵🇪 Peruvian sol: a steady, significant decline from early 2019 to September 2021, followed by flat-to-moderate strengthening. Inflation stayed around 2% throughout much of 2020 before rising to around 8.5% in H1 2022, and then beginning to moderate in H1 2023, dropping to below 4% by the end of the year.
Regarding fair values, the broad REER trends described above don’t really shed that much light, as valuations depend on where underlying current account balances stand in relation to equilibrium.
FX fair value estimates for 13 economies across LatAm at end-2023 underscore the idiosyncrasies of recent current account dynamics in the region…
…while also highlighting V- and L-shape nominal performance against USD since the pandemic in several countries,…
…even as the inflationary spike in ~2022 continues to abate across the main economies covered below.
As in other parts of the world, several Latin American economies saw their real exchange rates weaken during the pandemic only to rebound sharply amid the global inflationary shock. This v-shape trajectory of LatAm REERs is most evident in Peru and Costa Rica but is also visible to varying extents in Brazil, Colombia, the Dominican Republic, Mexico, and Panama.
REER trends in LatAm
In nominal terms against the dollar, the main currencies in the region weakened during 2020 before strengthening to varying degrees in the years since. Inflation was generally around the 2% mark in these economies in 2020 before peaking in 2022:
Mexican peso: after dropping sharply during the early pandemic, the peso had mostly recovered by early 2021 and traded flat until October 2022. Since then, it has strengthened significantly, despite some wobbles circa October 2023. Inflation rose from 2% in 2020 to ~8.5% in 2022 before declining to the 4-5% range in 2023/Q1 2024.
Brazilian real: weakened significantly in H1 2020 and has traded between flat and very moderate strengthening since. Inflation rose from 2% in 2020 to 12% by early 2022, and has remained mostly in the 4-6% range since late 2022.
Colombian peso: a sharp drop in March 2020 before almost recovering by the end of the year. Then steady weakening until June 2022, when it dropped sharply, followed by a strong recovery throughout 2023. In early 2020, inflation stood at 4% but declined to sub-2% that year, before beginning to rise in H1 2021, culminating in a peak above 13% in late 2022/early 2023 and since declined to the 8-10% range.
Chilean peso: came under pressure in March 2020 but only after having experienced a sharper drop in late 2019, so its decline during the pandemic coincided with a pre-existing weakening trend. By May 2021 it had more than recovered the early-pandemic weakness, then steadily weakened to October 2022. Subsequently, it bounced back in mid-2023 before declining again. Inflation hovered in the 2-4% range in 2020 before beginning a long steady rise from 2021 onwards, peaking at 14% in 2022 and declining to circa 4% by end-2023.
Peruvian sol: a steady, significant decline from early 2019 to September 2021, followed by flat-to-moderate strengthening. Inflation stayed around 2% throughout much of 2020 before rising to around 8.5% in H1 2022, and then beginning to moderate in H1 2023, dropping to below 4% by the end of the year.
Regarding fair values, the broad REER trends described above don’t really shed that much light, as valuations depend on where underlying current account balances stand in relation to equilibrium.
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FX fair value estimates for 13 economies across CEEMEA at end-2023 underscore the impact of the war in Ukraine.
Real effective exchange rates spiked in various countries following the successive pandemic-Ukraine shocks…
…although Morocco and Croatia appear to be bastions of REER stability in an otherwise volatile group.
One way to value a currency is to assess the link between current account balances and real effective exchange rates, which merge the nominal exchange rate with the ratio of domestic to trade-weighted foreign prices. The IMF uses a fair value model that compares “equilibrium” to “underlying” CABs, with any difference a result of REER misalignment. FX fair values are presented below.
REER trends in CEEMEA
Several economies in Central & Eastern Europe, the Middle East, and Africa have experienced real exchange rate appreciation in the past few years. The dual pandemic-Ukraine inflationary shock since 2021-2022 is in large part responsible for this: annualized inflation remained in double digits in the Czech Republic, Hungary, Poland, Estonia, and Croatia until early- to mid-2023.
Moreover, the Czech koruna, Hungarian forint, and Polish złoty all weakened significantly in nominal terms in 2022, but inflation was so strong that these REERs still rose that year. In 2023, REERs in these countries continued to climb while the koruna traded flat and the forint and złoty registered modest nominal gains.
Russia saw yearly inflation fall from ~11% at the beginning of 2023 to the 2-3% range in Q2 before rising to ~7% by year end, while the ruble weakened significantly, resulting in REER weakening.
South Africa experienced declining inflation and a minor depreciation of the rand in 2023, albeit on the back of significant currency weakening since mid-2021, causing the REER to slide.
Turkey remains an inflationary basket-case, having spent almost all of 2023 near or above 50% in annualized terms, resulting in the lira’s ongoing decline. The net effect has been for its REER to move sideways – but after many years of secular decline.
Turning now to fair values, a number of REERs in CEEMEA exhibit significant over- or under-valuation.
FX fair value estimates for 13 economies across CEEMEA at end-2023 underscore the impact of the war in Ukraine.
Real effective exchange rates spiked in various countries following the successive pandemic-Ukraine shocks…
…although Morocco and Croatia appear to be bastions of REER stability in an otherwise volatile group.
One way to value a currency is to assess the link between current account balances and real effective exchange rates, which merge the nominal exchange rate with the ratio of domestic to trade-weighted foreign prices. The IMF uses a fair value model that compares “equilibrium” to “underlying” CABs, with any difference a result of REER misalignment. FX fair values are presented below.
REER trends in CEEMEA
Several economies in Central & Eastern Europe, the Middle East, and Africa have experienced real exchange rate appreciation in the past few years. The dual pandemic-Ukraine inflationary shock since 2021-2022 is in large part responsible for this: annualized inflation remained in double digits in the Czech Republic, Hungary, Poland, Estonia, and Croatia until early- to mid-2023.
Moreover, the Czech koruna, Hungarian forint, and Polish złoty all weakened significantly in nominal terms in 2022, but inflation was so strong that these REERs still rose that year. In 2023, REERs in these countries continued to climb while the koruna traded flat and the forint and złoty registered modest nominal gains.
Russia saw yearly inflation fall from ~11% at the beginning of 2023 to the 2-3% range in Q2 before rising to ~7% by year end, while the ruble weakened significantly, resulting in REER weakening.
South Africa experienced declining inflation and a minor depreciation of the rand in 2023, albeit on the back of significant currency weakening since mid-2021, causing the REER to slide.
Turkey remains an inflationary basket-case, having spent almost all of 2023 near or above 50% in annualized terms, resulting in the lira’s ongoing decline. The net effect has been for its REER to move sideways – but after many years of secular decline.
Turning now to fair values, a number of REERs in CEEMEA exhibit significant over- or under-valuation.
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Following on from my estimates of current account equilibria in advanced economies, here I turn to emerging markets, which is after all the focus of this blog. I initially focused on AEs in an attempt to replicate as closely as possible an IMF empirical investigation of current account balances in this set of countries, as doing so is more methodologically prudent before expanding the analysis to EMs.
The goal of this work is to understand what a country’s current account balance should be (see my previous post for a breakdown of what CABs are), based on relevant characteristics as identified by the IMF in its model. These include the cyclically-adjusted government budget balances, demographic dependency ratios, and income level, which are all variables that tend to change only gradually over time. As such, they can be thought of as “long-term” variables, especially the latter two, which can be useful in trying to conceptualize where a country’s CAB ought to be.
In contrast, cyclical variables that are more volatile from year to year, such as real exchange rates, terms of trade, and domestic output gaps, as well as fiscal policy, theoretically should do a better job of predicting observed CAB readings. These can be thought of “short-term” variables, although I use the same fiscal variable in both the long- and short-run models.
The “long-run” model fitted values in these charts are the closest approximation I have now for current account equilibria in these EMs. But my confidence in these results is low and will require additional work, for the reasons described below.
Regretfully, I am far from satisfied with the results of this work so far, but have chosen to publish these interim conclusions in the interest of maintaining regular engagement with my audience. Worse still is that I had to exclude important EMs such as Indonesia from the analysis to maintain a balanced panel dataset, as data availability for some indicators didn’t go far back enough in time.
The good news is that both models have overall statistical significance and that each of the regressors in the short-run model is statistically significant.
Short-run model results
I’d still like to tweak the short-run model by adding a trade-weighted foreign output gaps as an independent variable and replacing the cyclically-adjusted budget indicator with a non-cyclically-adjusted budget variable. But, overall, I’m fairly content with the short-run model, as the fiscal, terms of trade, and real exchange rate regressors all behave as expected in relation to the CAB.
For methodological reasons, I dropped the lagged dependent variable that featured in the short-run AE model, which has decreased the R2 readings in this short-run EM model, though I don’t see this as much of a problem.
Surprisingly, the domestic output gap is not negatively-related to the CAB but exhibits a positive, strong, and significant association. A positive output gap, meaning that economic growth is above-trend, often results in increased imports, thus placing downward pressure on the CAB. And this is indeed what I found in the short-run model for AEs: a negative, strong, and significant relationship.
Perhaps the reason behind the positive output gap-CAB relationship in EMs is to be found in exports as a common driver: strong exports could lead to a higher output gap and a higher CAB. Many EMs rely heavily on exports for economic growth, whether of manufactured goods, commodities, or services.
Short-run model variables
Deviation from the in-sample average of the general government cyclically-adjusted budget balance adjusted for nonstructural elements beyond the economic cycle, as a share of potential GDP. Countries with higher-than average government budget balances should be able to attract larger portions of global current account surpluses. This is confirmed by the positive coefficient at 1% significance.
Domestic output gap: actual output minus potential output in current USD (logarithmic difference). Economies in the boom phase of an economic cycle can experience strong import growth, appreciated exchange rates, and stronger remittance and primary income outflows, putting the current account under pressure. Unexpectedly, the coefficient is positive, and is also large and significant. Theoretically, exports could be a common driver of output gaps and CABs in EMs, as they are positively associated with both.
One-year change in the terms of trade, i.e. the ratio of the price of exports to the price of imports. The coefficient is positive and significant, as expected.
One-year change in the REER. The coefficient is negative and significant, as expected, because high REERs can lead to imports becoming relatively cheap, thus increasing import volumes, and lead to exports becoming relatively expensive, thus decreasing export volumes.
Regression Results – 41 Emerging Economies
Dependent variable:
Current Account Balance, %GDP
panel
coefficient
linear
test
(1)
(2)
random.shortrun
random.pcse.shortrun
sur_dev
0.439***
0.439***
(0.056)
(0.065)
ogap_usd.logdiff
15.920***
15.920**
(3.543)
(8.019)
tot_1d
0.061***
0.061***
(0.022)
(0.022)
reer_1d
-0.072***
-0.072***
(0.021)
(0.018)
Constant
-1.054
-1.054
(0.735)
(1.022)
Observations
861
R2
0.097
Adjusted R2
0.093
F Statistic
92.337***
Note:
*p<0.1; **p<0.05; ***p<0.01
Long-run model results
As for the long-run model, alas only two of its four independent variables are statistically significant after controlling for heteroskedasticity and autocorrelation: the budget surplus indicator and the old-age dependency ratio.
The child-age dependency ratio and income level were both statistically insignificant, as was the case in the advanced economy model. As such, in further work on this I will be discarding these two regressors and replacing them with something related to private savings. Doing so would complement the public savings approach already captured by the budget variable.
Moreover, the adjusted-R2 is laughably low in this model. While achieving a high R2 isn’t the most important consideration in constructing a good model with unbiased, efficient estimators, I’d still like to see something higher.
One other area of improvement for this long-run CAB model would be to run the independent variables against underlying CABs – which have the cyclical impact of output gaps stripped out and real exchange rate effects worked in – rather than against observed, actual CABs.
Long-run model variables
Deviation from the in-sample average of the general government cyclically-adjusted budget balance adjusted for nonstructural elements beyond the economic cycle, as a share of potential GDP. Countries with higher-than average government budget balances should be able to attract larger portions of global current account surpluses. This is confirmed by the positive coefficient at 1% significance.
The deviation from the in-sample average of the child-age dependency ratio on the 20-64 year-old working-age population, i.e. people 19 and under. I tested this variable on the intuition that the child dependency ratio could well be negative, not only due to the income effect as noted by Faruqee and Isard, but also due to the large amounts of consumption (which pushes down savings, increases imports etc) associated with children’s parents at the height of their income generation, family activities, and the associated demographic profile that such countries might have. In this two-ways fixed effects model it is insignificant when standard errors are controlled for heteroskedasticity and autocorrelation. It is also unexpectedly positive.
The deviation from the in-sample average of the old-age dependency ratio on the 20-64 year-old working-age population, i.e. people 65 and over. My intuition with this variable is that it would be positive because of the high level of savings that elderly people have, despite doubts as to the degree to which the elderly can generate positive savings flows for themselves. The sign was positive, as expected, a statistically significant.
Deviation from the in-sample average of GNI per capita on a PPP basis, adjusted for the country’s output gap to equate the observation to what it would be if the economy were running at potential. Unexpectedly, the coefficient is negative: theoretically, greater availability of income and thus savings opportunities in wealthier countries should lead to a higher CAB. Yet this result is insignificant in the long-run model.
