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Hot Money and Serial Financial Crises

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  • Anton Korinek

Abstract

When one region of the world economy experiences a financial crisis, the world-wide availability of investment opportunities declines. As global investors search for new destinations for their capital, other regions will experience inflows of hot money. However, large capital inflows make the recipient countries more vulnerable to future adverse shocks, creating the risk of serial financial crises. This paper develops a formal model of such flows of hot money and the vulnerability to serial financial crises. It analyzes the role for macro-prudential policies to lean against the wind of such capital flows so as to offset the externalities that occur during financial crises. Summarizing the results of our model in a simple policy rule, the paper finds that a 1 percentage point increase in a country's capital inflows/GDP ratio warrants a 0.87 percentage point increase in the optimal level of capital inflow taxation.

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Bibliographic Info

Article provided by Palgrave Macmillan in its journal IMF Economic Review.

Volume (Year): 59 (2011)
Issue (Month): 2 (June)
Pages: 306-339

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Handle: RePEc:pal:imfecr:v:59:y:2011:i:2:p:306-339

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References

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  1. Jeffrey A. Frankel & Andrew K. Rose, 1996. "Currency crashes in emerging markets: an empirical treatment," International Finance Discussion Papers 534, Board of Governors of the Federal Reserve System (U.S.).
  2. Bianchi, Javier, 2009. "Overborrowing and Systemic Externalities in the Business Cycle," MPRA Paper 15114, University Library of Munich, Germany.
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  5. Anton Korinek & Agustin Roitman & Carlos A. Végh, 2010. "Decoupling and Recoupling," American Economic Review, American Economic Association, vol. 100(2), pages 393-97, May.
  6. James Tobin, 1978. "A Proposal for International Monetary Reform," Cowles Foundation Discussion Papers 506, Cowles Foundation for Research in Economics, Yale University.
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  8. Jeanne, Olivier & Korinek, Anton, 2010. "Managing Credit Booms and Busts: A Pigouvian Taxation Approach," CEPR Discussion Papers 8015, C.E.P.R. Discussion Papers.
  9. Enrique G. Mendoza, 2001. "The benefits of dollarization when stabilization policy lacks credibility and financial markets are imperfect," Proceedings, Federal Reserve Bank of Cleveland, pages 440-481.
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  12. Carmen M. Reinhart & Kenneth S. Rogoff, 2009. "This Time Is Different: Eight Centuries of Financial Folly," Economics Books, Princeton University Press, edition 1, volume 1, number 8973.
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  15. Korinek, Anton, 2011. "Foreign currency debt, risk premia and macroeconomic volatility," European Economic Review, Elsevier, vol. 55(3), pages 371-385, April.
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Cited by:
  1. Anton Korinek, 2011. "The New Economics of Capital Controls Imposed for Prudential Reasons+L4888," IMF Working Papers 11/298, International Monetary Fund.
  2. Joseph E. Stiglitz, 2011. "Rethinking Macroeconomics: What Failed, And How To Repair It," Journal of the European Economic Association, European Economic Association, vol. 9(4), pages 591-645, 08.

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