International Capital Flow In The Process Of Liberalization Of China: Motivation, Influence And Risk Identification

With the implementation of financial market reforms and RMB internationalization strategy, the impact of international capital flows is playing a more important role. As a major economy, the path of market opening of China is different from other countries, thus the international capital flows of China not only have similar features with other countries, but also have some own characteristics due to the difference of policy and environment. The discrepancy means there are still many problems need to explore and research,such as, what are the factors affect international capital flows in China? What are the risks of international capital flows with the market opening? How growing number of international capital is going to affect domestic market? How to identify risks of international capital flows and so on.In this paper, we study on the issuses of international capital flows of China in the process of market liberalization, details are as follows:First, we study on the question of “what makes the international capital flow?”. After the breakdown of the Bretton Woods, traditional macroeconomic model can’t explain well in the area of international capital flow and the exchange rate; in another hand, the theory of microstructure and global allocation become the new way to deal with the problem of international capital. Therefore, according to the framework of general equilibrium-global allocation model, we try to find the influential factors for the international capital flow and the effect of market openness.Second, we do the risk analysis which came from the capital market liberalization. Through the theory research of money market equilibrium and the valuation effects,we find the sources of risk in the opening of capital market and on basis of which we give policy suggestions. In conclusion, the imbalance of international payments is the main primary source of risk and crisis; the existing of valuation effects makes the situation even worse. Therefore, we should first keep international capital account in balance, and then obtain the objective of exchange rate. With the effective domestic monetary control, inflation targeting can be successfully achieved, which is good for achieving internal and external equilibrium in the market.The third area we want to research is “how the international capital affect the domestic market”. With the deepen reforms and larger scale of international capital flow, external capital will play a more important role in domestic market by influence in interest rate, exchange rate, asset price. In this part we deduce three impact mechanisms by connecting money market equilibrium and product market equilibrium: the liquidity transiting mechanism, the monetary policy transiting mechanism and the wealth transiting mechanism, and made the empirical analysis on the roles of each channel. The results show that, the liquidity transiting mechanism is the main mechanism for the international capital influence. It is the continued appreciation in RMB and the potential restraint for the monetary policy makes the liquidity effect more powerful. Robustness tests also confirmed these conclusions.Next, launched around the issue of “risk identification”, we make further discussions from aspects of motivation of international arbitrage. In this part we study the condition of international capital arbitrage, and on this basis to discuss how to control the risk of international capital. Learning from the theory of uncovered equity parity and the framework of Sharp ratio, we treat the arbitrage process as the portfolio of foreign investment and investing in foreign money. By comparing the return per unit risk, international capital flow can be determined. The general condition of arbitrage can be easily applied to the arbitrage of stock, foreign exchange, spreads, real estate, and even the credit. The empirical study on the Chinese copper futures market arbitrage confirmed the conclusion above.Lastly, we discuss the risk identification from the aspect of external characteristics such as periodic and external shocks. International capital flow can be periodic according to the macro environment differences between different markets; in another hand, external shocks can lead to volatility increase in international capital flow. Based on the characteristics of periodicity and the external shocks, we propose two models to identify them respectively: AR(1)-GARCH(1,1)-Time varying Copula model and NARMAX(Nonlinear Auto Regressive Moving Average with eXogenous inputs) model. The empirical results find that: there are several international capital waves after the reform of the exchange market in 2005, which are often driven by the return chasing effects and portfolio rebalancing effects. For the risk identification of external shocks, by the comparison of forecasting and reality, we found that the NARMAX model can well predict the impulses and influences by the domestic and external liquidity shocks.The main innovations and contributions of this paper lie in the following three points:(1) theoretically analyze the impact of characteristics of economy transition in China(including the economic growth rate reducetion and financial deepening) on the international capital flow and international balance of payments.(2) theoretically analyze the risks of international capital flows of China by valuation model, which can not only include the speculative risk model under the fixed exchange rate regime, but also provide theoretical support for different policy choices.(3) analyze the influence of international capital flows on China’s domestic market theoretically and empirically.(4) based on idea of international portfolio, give the general conditions for short-term international capital flows recognition.