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A Pragmatic Approach to Capital Account Liberalization

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Author Info
Eswar S. Prasad
Raghuram G. Rajan

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Abstract

In the mid-1990s, mainstream economists of nearly all stripes commonly recommended capital account liberalization—that is, allowing a free flow of funds in and out of a country's economy—as an essential step in the process of economic development. But then came the East Asian financial crisis of 1997–98, in which even seemingly healthy and well-managed economies like those of South Korea were engulfed by massive capital outflows and tremendous currency volatility, and capital account liberalization became quite controversial in the economics profession. A decade later, now that time has quelled passions and intervening research can shed more light on the debate, it appears that both the costs and benefits of capital account liberalization may have been misunderstood in that earlier debate. Now it appears that the main benefits of capital account liberalization for emerging markets are indirect, more related to their role in building other institutions than to the increased financing provided by capital inflows. And these indirect benefits are important enough that countries should look for creative approaches to capital account liberalization that would help attain these benefits while reducing the risks. Countries don’t have much choice but to plan for capital account liberalization because capital accounts are de facto becoming more open over time, whatever governments may do to try to control them.

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Publisher Info
Article provided by American Economic Association in its journal Journal of Economic Perspectives.

Volume (Year): 22 (2008)
Issue (Month): 3 (Summer)
Pages: 149-72
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Handle: RePEc:aea:jecper:v:22:y:2008:i:3:p:149-72

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References listed on IDEAS
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Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. M. Ayhan Kose & Eswar Prasad & Marco Terrones, 2008. "Does Openness to International Financial Flows Raise Productivity Growth?," IMF Working Papers 08/242, International Monetary Fund. [Downloadable!]
    Other versions:
  2. Barry Eichengreen, 2009. "From the Asian crisis to the global credit crisis: reforming the international financial architecture redux," International Economics and Economic Policy, Springer, vol. 6(1), pages 1-22, June. [Downloadable!] (restricted)
  3. Pasricha, Gurnain Kaur, 2008. "Imperfect Competition in Financial Markets and Capital Controls: A Model and a Test," MPRA Paper 12125, University Library of Munich, Germany. [Downloadable!]
  4. Gurnain Kaur Pasricha, 2009. "Bank Competition and International Financial Integration:Evidence Using a New Index," Working Papers 242009, Hong Kong Institute for Monetary Research. [Downloadable!]
    Other versions:
  5. Philip R. Lane, 2008. "The Macroeconomics of Financial Integration: A European Perspective," The Institute for International Integration Studies Discussion Paper Series iiisdp265, IIIS. [Downloadable!]
  6. Philip Arestis & Asena Caner, 2008. "Capital Account Liberalization and Poverty: How Close is the Link?," Working Papers 0811, TOBB University of Economics and Technology, Department of Economics. [Downloadable!]
  7. Sean Holly & Mehdi Raissi, 2009. "The Macroeconomic Effects of European Financial Development: A Heterogenous Panel Analysis," Working Paper / FINESS 1.4, DIW Berlin, German Institute for Economic Research. [Downloadable!]
  8. Tao Sun & Xiaojing Zhang, 2009. "Spillovers of the U.S. Subprime Financial Turmoil to Mainland China and Hong Kong SAR: Evidence from Stock Markets," IMF Working Papers 09/166, International Monetary Fund. [Downloadable!]
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