​Paola Morales-Acevedo

In an increasingly interconnected world, spillovers from the monetary policies of advanced economies onto emerging ones, such as Colombia, present a major challenge. These spillovers can have destabilising effects on financial stability through their impact on commercial banks and corporations via changes in asset prices, inflation and credit availability. In a recent paper I analyse the impact of foreign monetary policy — from a broad range of countries — on the foreign indebtedness of Colombian banks and corporations, and evaluate whether capital controls can help to mitigate these spillover effects.

The analysis uses a panel of cross-border lending data to assess the impact of foreign monetary policy on Colombia. The data cover all foreign loans granted by foreign-located financial institutions – for instance in the United States, Germany and the Bahamas – to (i) financial and (ii) non-financial companies located in Colombia, respectively.

The results identify spillover effects of foreign monetary policy on the type of cross-border loan. In particular, periods of foreign monetary policy easing are associated with an increase in cross-border lending to Colombian banks, but a reduction in lending to non-financial corporations (as the new foreign lenders direct their flows to banks). These effects are accompanied by decreases in the interest rates on loans to Colombian banks and corporations. A mirror pattern is observed during periods of foreign monetary policy tightening, with a decrease in cross-border lending to Colombian banks, an increase in lending to corporations, and with rising interest rates to banks and corporations.

The paper also finds that capital controls play an important role in mitigating these spillover effects. However, their effectiveness depends on the stance of both foreign and domestic monetary policy. In particular, a reduction in the foreign monetary policy rate beyond a threshold (60 basis points) cancels out the effects of capital controls, resulting in a net increase in the foreign indebtedness of Colombian banks. The effects of the capital controls are also cancelled out by an increase in the domestic monetary policy rate (beyond 180 basis points). In addition, capital controls are more effective in mitigating the effects of the cross-border lending to banks than to non-financial corporations. Overall, when capital controls are in place, the interest rates on loans to Colombian banks and corporations are less sensitive to periods of foreign monetary policy tightening.