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Abstract

It is well established that private information is critical to our understanding of asset prices. In this paper we argue that it also affects international capital flows and use a simple two-country DSGE model to illustrate its impact. We show that private information (i) increases the volatility of both net and gross capital flows, (ii) leads to a high correlation between capital inflows and outflows, (iii) leads to a disconnect of capital flows from observed macro fundamentals and (iv) implies that capital flows contain information about the future macro fundamentals. We also show that dispersed information affects capital flows both through asset prices and directly, so that the impact on flows is not just the mirror image of the impact on prices.

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