World Bank warns emerging economies of big capital outflow under Fed rate hike

The World Bank Tuesday warned of the risk of a large decline in capital flows to emerging economies in the upcoming U.S. monetary policy tightening cycle.

If the tightening cycle were accompanied by a surge in U.S. long-term yields, as happened during the taper tantrum in 2013, the reduction in capital flows to emerging economies could be substantial, according to a new research paper released by the World Bank ahead of this week's meeting by the U.S. Federal Reserve to discuss whether to raise interest rates.

Its research shows a 100 basis point jump in U.S. long-term yields, as occurred during the taper tantrum, could temporarily reduce aggregate capital flows to the emerging markets by up to 2.2 percentage points of their combined gross domestic product (GDP).

Although the paper expected the tightening cycle might be smooth, it still runs a risk of being associated with market volatility, in view of the global economy that is adjusted to weakening growth prospects, slowing international trade and persistently lower commodities prices.

"Risk are compounded by recent spikes in volatility in global financial markets and deteriorating growth prospects in developing economies," said Ayhan Kose, director of the World Bank's Development Prospects Group.

"An abrupt change in risk appetite for emerging market assets could become contagious and affect capital flows to many countries," Kose said Endi