Emerging Market Local Currency Bond Yields and Foreign Holdings in the Post-Lehman Period: A Fortune or Misfortune?

The paper shows that foreign holdings of local currency government bonds in emergingmarket countries (EMs) have reduced bond yields but have somewhat increased yieldvolatility in the post-Lehman period. Econometric analyses conducted from a sample of12 EMs demonstrate that these results are robust and causal. We use an identificationstrategy exploiting the geography-based measure of EMs financial remoteness vis-a-vismajor offshore financial centers as an instrumental variable for the foreign holdingsvariable.The results also show that, in countries with weak fiscal and external positions,foreign holdings are greatly associated with increased yield volatility. A case study usingPoland data elaborates on the cross country findings.