Valuation Effects and External Adjustment: A Review

This paper surveys the recent empirical and theoretical literature on valuation ef-fects. The increase in cross-border holdings of financial assets opens the door to signif-icant adjustments in a country’s external position in response to fluctuations in asset and currency prices. Access to better data on net and gross international investment positions for a broad range of countries permits careful measurement of these ‘valuation effects’. We distinguish between predictable and unpredictable valuation effects, and argue that they play separate roles in the adjustment process (for better or for worse). We discuss theoretical conditions under which predictable valuation effects can arise in equilibrium. Finally, we review the implications of growing valuation effects for the conduct of monetary policy in industrialized and emerging economies