THE IMPACT OF CAPITAL FLOWS ON THE REAL EXCHANGE RATE: EVIDENCE FROM SERBIA
Keywords:
Capital flows, Real effective exchange rate, Small open economy, Serbia, Vector autoregression
Abstract
As a small open economy increasingly integrated into global financial markets, Serbia is exposed to fluctuations in cross-border capital movements that may influence exchange rate dynamics and macroeconomic stability. This paper examines the relationship between international capital flows and the real effective exchange rate in Serbia, with particular attention to the structure of capital inflows. The structural vector autoregression (SVAR) model is applied to capture the dynamic interactions between external economic conditions, capital flows, monetary policy, domestic economic activity, and the real effective exchange rate, using quarterly data for the period from 2007 to 2024. The results, obtained through impulse response analysis, indicate that shocks to capital inflows lead to a moderate appreciation of the real exchange rate, although the magnitude and persistence of the effect vary depending on the composition of capital flows. Equity inflows show a somewhat more persistent appreciation effect compared with debt inflows, while the overall impact of total capital flows appears relatively limited. These findings highlight the importance of capital flow composition for exchange rate dynamics and provide useful insights for the design of exchange rate and macroprudential policies in small open economies.
References
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Rafi, O. P. C. M., & Ramachandran, M. (2018). Capital flows and exchange rate volatility: Experience of emerging economies. Indian Economic Review, 53, 183–205. https://doi.org/10.1007/s41775-018-0031-1
Razmi, A., Rapetti, M., & Skott, P. (2011). The real exchange rate and economic development (Working Paper No. 2011-08). University of Massachusetts.
Sims, C. A. (1980). Macroeconomics and reality. Econometrica, 48(1), 1–48.
Aprilia, E., Hidayat, A., & Asngari, I. (2024). Causality between exchange rates, economic growth and inflation in Indonesia. Economic Analysis, 57(1), 36–52. https://doi.org/10.28934/ea.24.57.1.pp36-52
Boudias, R. (2015). Capital inflows, exchange rate regimes and credit dynamics in emerging market economies. International Economics, 143, 80–97. https://doi.org/10.1016/j.inteco.2015.05.001
Bozhinovska, S. (2024). Central bank operations under foreign exchange accumulation: The case of the Macedonian central bank (2005–2022). Review of Political Economy, 1–27. https://doi.org/10.1080/09538259.2024.2381043
Brooks, R., Edison, H., Kumar, M. S., & Sløk, T. (2004). Exchange rates and capital flows. European Financial Management, 10(3), 511–533. https://doi.org/10.1111/j.1354-7798.2004.00261.x
Bukovšak, M., Lukinić Čardić, G., & Pavić, N. (2020). Structure of capital flows and exchange rate: The case of Croatia. Empirica, 47(1), 113–146. https://doi.org/10.1007/s10663-019-09441-1
Combes, J.-L., Kinda, T., & Plane, P. (2012). Capital flows, exchange rate flexibility, and the real exchange rate. Journal of Macroeconomics, 34(4), 1034–1043. https://doi.org/10.1016/j.jmacro.2012.08.001
Đukić, M., & Bodroža, D. (2022). Diaspora contribution to the economic development of the Republic of Serbia: Remittances and investments. In Economic and financial implications of COVID-19 crises (pp. 181–199). Université Côte d’Azur.
Erić, D., Đukić, M., & Bodroža, D. (2021). Finansijska tržišta X.0. Belgrade Banking Academy; Data Status.
Grossmann, A., & Orlov, A. G. (2022). Exchange rate misalignments, capital flows and volatility. The North American Journal of Economics and Finance, 60, 101640. https://doi.org/10.1016/j.najef.2022.101640
Hamilton, J. D. (1994). Time series analysis. Princeton University Press.
Ilzetzki, E., Reinhart, C. M., & Rogoff, K. S. (2022). Rethinking exchange rate regimes. In G. Gopinath, E. Helpman, & K. Rogoff (Eds.), Handbook of international economics (Vol. 6, pp. 91–145). Elsevier. https://doi.org/10.1016/bs.hesint.2022.02.010
Itskhoki, O., & Mukhin, D. (2025). What drives the exchange rate? IMF Economic Review, 73, 86–117. https://doi.org/10.1057/s41308-024-00251-0
Jongwanich, J., & Kohpaiboon, A. (2013). Capital flows and real exchange rates in emerging Asian countries. Journal of Asian Economics, 24, 138–146. https://doi.org/10.1016/j.asieco.2012.10.006
Kadırgan, C. (2023). Exchange rate driven balance sheet effect and capital flows to emerging market economies. The Quarterly Review of Economics and Finance, 87, 35–45. https://doi.org/10.1016/j.qref.2022.11.003
Koepke, R., & Paetzold, S. (2024). Capital flow data—A guide for empirical analysis and real-time tracking. International Journal of Finance & Economics, 29(1), 311–331. https://doi.org/10.1002/ijfe.2687
Ledóchowski, M., & Żuk, P. (2022). What drives portfolio capital inflows into emerging market economies? The role of the Fed's and ECB's balance sheet policies. Emerging Markets Review, 51, 100881. https://doi.org/10.1016/j.ememar.2021.100881
Liu, T. Y., & Lee, C. C. (2022). Exchange rate fluctuations and interest rate policy. International Journal of Finance & Economics, 27(3), 3531–3549. https://doi.org/10.1002/ijfe.2336
Lu, D., Liu, J., & Zhou, H. (2022). Global financial conditions, capital flows and the exchange rate regime in emerging market economies. Journal of International Financial Markets, Institutions and Money, 77, 101492. https://doi.org/10.1016/j.intfin.2022.101492
Lütkepohl, H. (2005). New introduction to multiple time series analysis. Springer.
Magud, N. E., Reinhart, C. M., & Vesperoni, E. R. (2011). Capital inflows, exchange rate flexibility, and credit booms (NBER Working Paper No. 17670). National Bureau of Economic Research. https://doi.org/10.3386/w17670
Manić, A., & Grubišić, Z. (2020). Creating monetary measurement unit (MMU) as the global universal measure for hedging against inflation and currency risk. Economic Analysis, 53(1), 179–186. https://doi.org/10.28934/ea.20.53.1.pp179-186
Miranda-Agrippino, S., & Rey, H. (2022). The global financial cycle. In G. Gopinath, E. Helpman, & K. Rogoff (Eds.), Handbook of international economics (Vol. 6, pp. 1–43). Elsevier. https://doi.org/10.1016/bs.hesint.2022.02.008
Montes-Rojas, G., & Toledo, F. (2021). External shocks and inflationary pressures in Argentina: A post-Keynesian-structuralist empirical approach. Review of Political Economy, 34(4), 789–806. https://doi.org/10.1080/09538259.2021.1993001
Morvillier, F. (2020). Do currency undervaluations affect the impact of inflation on growth? Economic Modelling, 84, 275–292. https://doi.org/10.1016/j.econmod.2019.04.010
Nenadović, S. (2022). Repo rates as reference interest rates: Testing the expectations hypothesis of the term structure of interest rates. Economic Analysis, 55(2), 8–19. https://doi.org/10.28934/ea.22.55.2.pp1-19
Oskolkov, A. (2023). Exchange rate policy and heterogeneity in small open economies. Journal of International Economics, 142, 103750. https://doi.org/10.1016/j.jinteco.2023.103750
Pedrono, J. (2022). The currency channel of the global bank leverage cycle. Journal of International Money and Finance, 126, 102652. https://doi.org/10.1016/j.jimonfin.2022.102652
Rafi, O. P. C. M., & Ramachandran, M. (2018). Capital flows and exchange rate volatility: Experience of emerging economies. Indian Economic Review, 53, 183–205. https://doi.org/10.1007/s41775-018-0031-1
Razmi, A., Rapetti, M., & Skott, P. (2011). The real exchange rate and economic development (Working Paper No. 2011-08). University of Massachusetts.
Sims, C. A. (1980). Macroeconomics and reality. Econometrica, 48(1), 1–48.
Published
2026/04/17
Section
Original Scientific Paper
