The demand for safe assets in emerging economies and global imbalances: New empirical evidence

Recent economic theory has singled out mismatches between the supply and the demand of safe financial assets in emerging countries as drivers of international capital flows and, ultimately, global current account imbalances. This paper assesses empirically the contribution of such “search for safe assets” to the size and composition of emerging economies’ international asset portfolios. Excess demand for safe assets in financially less-developed countries would imply that these countries hold disproportionately high shares of their total portfolios in foreign assets. Moreover, financially less-developed countries would hold disproportionately high shares of their foreign portfolios in financially developed countries, which are the major producers of ostensibly safe assets. This paper finds little empirical support for these predictions. Financially less-developed countries allocate a larger proportion of their total holdings to domestic assets. Even when focusing on their foreign portfolios, there is no evidence of a general bias towards the assets of financially developed countries. Overall, asset mismatches do not appear to explain the asset allocation of financially less-developed countries.