Working Paper

An Analysis of the Impact of the European Convergence Phillips Curve: Evidence from US and Euro Area in New EU Member Countries

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This paper examines how international investors evaluate the change in the risk-return profile of ten
Central and Eastern European countries that recently entered the European Union (EU). By supplementing
international investment position data provided by IMF’s International Financial Statistics with data
obtained from Lane and Milesi-Ferretti’s External Wealth of Nations Mark II Database, we create a unified
data set of external assets and liabilities for new EU member states (NMS) ranging from 1993 to 2007.
Drawing from the so called ‘push-pull’ factor approach and the achievements of Modern Portfolio Theory,
we then collect an extensive set of international controls and a number of local risk-return variables that
served as transmission channels for the benefits of EU integration and hence, potentially attracted foreign
capital. These variables finally enter a panel data model with the Feasible Generalized Least Squares,
(FGLS) and linear regression method with panel-corrected standard errors (PCSE) as proposed by Beck
and Katz (1995). Our results indicate that convergence towards the EU has had a significant impact on
the liability side of international investment positions in NMS. Especially for debt and portfolio equity
liabilities, the region’s affiliation with the EU has mitigated the negative evaluation of local macroeconomic
risk factors by international investors. Nevertheless, also global forces turned out to be important drivers of
the recent build-up in external liabilities and show that the region’s capital supply still depends on actions
taken in other parts of the world.


Christian Friedrich
Václav Zdarek


Publication Date
JEL Classification
E31, F15, F21