Capital Flows and Credit Expansions in Turkey

Literature on capital flows identifies various channels through which capital inflows could create financial fragility and economic instability in “developing and emerging economies.†Domestic credit expansion is one such channel. Capital inflows can lead to rapid expansion of domestic credit, even create credit bubbles, and thus result in an increased fragility of the economy. I analyze the link between private capital inflows and bank credit to the private sector in the case of Turkey between 2003 and 2013 and ask whether surges in private capital inflows accelerate growth of credit. I employ a logit model to investigate the link between capital inflows and periods of rapid credit expansion. The findings suggest that net private capital inflows, after controlling for other determinants of credit, are positively correlated with periods of rapid credit expansion.