Global financial uncertainty shocks and external monetary vulnerability: the role of dominance, exposure, and history

The paper investigates the role of country-specific factors in external monetary vulnerability to global uncertainty shocks. We identify three structural determinants that may shape cross-country heterogeneity in the monetary response to financial uncertainty shocks: dominance in the international monetary and financial system, exposure to fickle capital flows, and volatile macrofinancial histories. Based on vector autoregressions, we operationalise external monetary vulnerability through an index based on estimated impulse responses of interest rate differentials, exchange rates, and foreign exchange reserves from quarterly data for 36 countries. We then investigate the covariates of this index and find that history and exposure are most strongly related to
a country’s external vulnerability. In particular, past currency and sovereign default crises as well as exposure to non-bank foreign investors and portfolio debt may increase sensitivity to a global uncertainty shock. By contrast, macroeconomic fundamentals such as public debt appear less relevant.