Gourinchas and Jeanne have written a food for thought paper on capital flows in emerging markets.
So far, the literature on capital flows has looked at one area:
1) Lucas paradox- why doesn’t capital from rich to poor countries? To which number of ideas came forward- institutional quality, financial development etc.
2) Lucas posed this question in 1990 and since then things have reversed quite a bit. Now,the case if that of surging capital inflows in emerging markets and research focuses on what can be done to manage the same.
To this, the authors pose a third problem:
3) Allocation Puzzle: Within emerging markets, we would expect capital to flow to those countries where growth and investment are higher; but in their paper they show it is the opposite. In other words, those with lower growth rates get more capital inflows. Hence it is a problem of allocation.
The paper is highly technical (atleast for me) and am still trying to understand the Greek terminology used. The paper basically identifies this puzzle, it does not have explanations of the puzzle. It throws some possible ideas for the puzzle but no analysis of the same.
A fantastic paper. We should see some future research on the same.