09 February 2023

Three Empirical Essays in International Economics and Finance

In this interview, Alexandre Robin Lauwers speaks about his recent PhD thesis that leverages on microlevel disaggregate data to address unsettled questions at the intersection of international economics and finance. His thesis, composed of three self-contained empirical essays, revolves around a common broad theme on capital flows, as he explains below.

How did you come to choose your research topics, that seem to cover a wide spectrum?

I have always had a keen interest in macro-financial linkages, banking, and financial markets. The three essays have a common basis – capital flows – but cover substantial areas. More than the desire to follow a unifying theme, my dissertation was data-driven, the product of enriching collaborations, and guided by a will to contribute originally to the literature, whether with a novel empirical setting or context.

Curious about issues related to credit market frictions, I was interested in exploring how waves of cross-border financial inflows are intermediated by the local banking sector, and whether these funds are channelled to high productivity firms, enabling them to invest and upscale. Literature on this matter remains scarce and equivocal. I address this question relying on ORBIS firm-level data, which offer the opportunity to study hundreds of thousands of European SMEs’ financial statements and relate their financial holdings to real outcomes.

Continuing on the theme of financial globalisation, my second topic originated during my internship at the IMF. Together with Deniz Igan from the BIS and Damien Puy at the IMF, we sought to explore empirically the link between international capital inflows and institutions. While there is mounting evidence documenting how the quality of a country’s institutions affects capital inflows, little is known about the opposite relationship – whether inflows can bring any institutional benefits in recipient countries. Evidence is usually at the country-level and confronted to reverse causality concerns. Thus, we decided to take an indirect approach, relying on a sample of manufacturing industries in a large panel of 89 countries and on three decades of capital flows data.

The last topic relates to financial markets and information frictions, and looks at the flow of speculative capital from money managers (e.g., hedge funds) into commodity futures markets. What began as a course assignment at Columbia University turned into a stimulating research project with Professor Steven Wei Ho. We were motivated by the literature that finds investors have limited capacity to process information and tend to specialise in one asset, and this could cause information to gradually diffuse across asset markets. We sought to bring more empirical evidence to these salient facts about today’s market by exploring, in a novel empirical context, the joint dynamics of commodity producers’ equity returns and the changes in money managers’ commodity futures positions.

Can you tell us more about your three empirical essays?

Specifically, my first essay and job market paper, entitled “In the Right Hands? Capital Inflows and Allocation of Credit Across Firms: Evidence from Emerging Europe”, explores in a large sample of private small firms how, and through which channels, financial inflows influence the domestic allocation of credit within industries, across firms that differ in their initial total factor productivity (TFP). The paper analyses directly the bank lending channel in the context, rarely studied, of 12 Central Eastern European emerging economies, where financial frictions have greater bite. In a nutshell, the paper finds that higher financial inflows increase the credit growth rates of low TFP firms significantly more than their more productive industry peers, as the former are relatively riskier and have more collateral. These results suggest a risk-taking channel of capital inflows that ultimately leads to a misallocation of credit towards the less productive firms.

The arrival of foreign capital can nonetheless be a catalyst for indirect benefits such as improvements in the quality of domestic institutions. To gauge the existence of such a link, my second essay, “Capital Inflows and Institutions”, jointly written with Deniz Igan and Damien Puy, takes an original look at how capital inflows within a country affect the growth of manufacturing industries that differ in their reliance on institutional strength. Intuitively, if industries that are structurally more reliant on good institutions to operate grow relatively faster following an increase of capital flows, then it’s likely that inflows are fostering growth by improving institutions, after controlling naturally for other possible channels these industries could benefit from (e.g., the relaxation of financing constraints). This is exactly the empirical results we find. However, not all forms of foreign capital are equal. It is the case when capital flows to the private sector, but not when it goes to the public sector. Also, the results are driven by private debt inflows, not foreign direct investment. Furthermore, the sample one looks at is important. Results are driven by debt inflows that go to emerging markets, that is, for countries that have achieved a certain level of institutional quality but for which the governance frontier is still far. Hence, we find important threshold effects.

Finally, my last essay, co-authored with Professor Ho, is titled “Is There Smart Money? How Information in the Commodity Futures Market Is Priced into the Cross-Section of Stock Returns with Delay”. It was recently accepted at the Journal of Financial and Quantitative Analysis. Specifically, we investigate if money managers, who are believed to be sophisticated and specialised investors in the commodity futures market, can be deemed as “smart money” with superior information advantage on commodity fundamentals, and whether this information is passed through in a timely manner to the equity price of commodity producers. More concretely, we have in this context two asset classes, the commodity futures and the stocks of commodity producers, and they have a correlated fundamental, namely the future prospect of the underlying commodity. The paper posits that money managers, who are specialised in the commodity market and trade futures, would by and large react to informational updates regarding commodities relatively fast, and their positions should predict the returns of securities that are more difficult to analyse, the stocks of commodity producers, especially for those with higher information asymmetry. And this is precisely what we find.

Do the findings of your thesis have practical implications for policymakers?

The findings from my first essay could be of interest to monetary/supervisory authorities. The results highlight the need to carefully monitor to whom bank credit is channelled to, especially in small open economies where bank intermediation of capital inflows is pervasive. They draw attention to the financial sector risk-taking incentives brought about by capital inflows, and how credit, if allocated based on risk characteristics, could feed through to a misallocation of production factors. Quantifying the impact of this risk-taking channel on aggregate productivity is a fruitful avenue for future research.

The results of my second essay suggest that private debt inflows can benefit the private sector through the institutional benefits they induce at the country-level. However, we also find that those benefits do not always materialise and are subject to thresholds: countries with an already large institutional deficit might actually exacerbate the problem by letting foreign capital flow into their private sector. Hence, these results underscore the importance of sequencing capital account liberalization with structural policies so that the recipient country can reap the benefits.

You defended your PhD thesis last November. What are you planning to do now?

I am currently in the job market, and hoping to join a live policy environment where research is encouraged, collaborative, and policy-oriented. I am motivated to continue my fruitful collaborations, and embrace new challenges.

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Alexandre Lauwers defended his PhD thesis in International Economics in November 2022. Professor Ugo Panizza presided the committee, which included Professor Cédric Tille, thesis supervisor, and Associate Professor Rahul Mukherjee, School of Economics of the University of Nottingham, UK.

Full citation of the PhD thesis:
Lauwers, Alexandre, R. “Essays in International Economics and Finance.” PhD thesis, Graduate Institute of International and Development Studies, Geneva, 2022.

Good to know: members of the Graduate Institute can download the PhD thesis from this page of the Institute’s repository.
For more details on Dr Lauwers’ up-to-date research and contact details, please consult his personal website.

Banner picture: Part of an image by Pushish Images/
Interview by Nathalie Tanner, Research Office.