In the run-up to the Global Financial Crisis (GFC), the emerging economies largely benefited from a confluence of tailwinds – low interest rates in the United States (US), rising commodity prices that favored commodity-exporting emerging economies, and substantial capital inflows. However, after a decade (2000-2010) of remarkable economic growth in the emerging economies, the risks have shifted from advanced economies to emerging markets following the Fed’s taper tantrum.
Using the multi-sector-multi-country intertemporal G-Cubed model, this paper quantifies and examines the spillover effects of a 200-basis point increase in risk premia shock in emerging economies to the domestic and global economies. The spillover risks of loss of confidence are discussed via the financial and trade channels where the shocked emerging economies experienced negative financial flow-on and positive trade flow effects while the non-shocked advanced economies experienced the opposite. This research also shows that trade and capital markets are important stabilizers for both shocked and non-shocked economies. The adjustment stabilizing process in these markets are necessary to circumvent prolonged adverse impacts of the risk premia shock.