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Sentiment and Sensibility in Emerging Markets

BERKELEY – Emerging market economies have experienced hard times in recent months. Net capital flows to these economies declined by an estimated $122 billion, or about 9.6% year on year, in 2013, and fell sharply again during the first two months of this year. What is driving the decline, and how long will it continue?

Global investors have become more risk-averse in response to expectations of tighter monetary conditions in the United States and Europe, as well as concerns about China’s slowing growth and its negative effects on global demand and commodity prices. And, in keeping with past experience, weak sentiment has reduced capital flows to emerging-market economies in general, especially those like Turkey, Indonesia, and Brazil that have large external financing needs or face upcoming elections with uncertain outcomes. The unexpected Crimea crisis, anxiety about Russia’s intentions in the region, and Western sanctions have further unnerved already skittish investors.