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Are Capital Controls in the Foreign Exchange Market Effective?

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Author Info

  • Christian Wolff

    ()
    (Luxembourg School of Finance, University of Luxembourg)

  • Stefan T.M. Straetmans

    ()
    (Maastricht University)

  • Roald J. Versteeg

    ()
    (Maastricht University)

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    Abstract

    One of the reasons for governments to use capital controls is to obtain some degree of monetary independence. This paper investigates the link between capital controls and interest differentials/ forward premia. This to test whether they can indeed give governments the power to drive exchange rates away from parity conditions. Two capital control variables are constructed in addition to the standard IMF capital control dummy. These variables are used to determine the date of capital account liberalization in a panel of Western European as well as emerging countries. Results show that capital controls do not give governments extra monetary freedom. There is even some evidence that capital controls decrease the level of monetary freedom governments enjoy for a number of countries.

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    Bibliographic Info

    Paper provided by Luxembourg School of Finance, University of Luxembourg in its series LSF Research Working Paper Series with number 08-12.

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    Date of creation: 2008
    Date of revision:
    Handle: RePEc:crf:wpaper:08-12

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    Related research

    Keywords: Capital controls; Exchange Rates; Interest Differentials; Forward premia; Monetary freedom.;

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    References

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    1. Geert Bekaert & Campbell R. Harvey, 2000. "Foreign Speculators and Emerging Equity Markets," Journal of Finance, American Finance Association, vol. 55(2), pages 565-613, 04.
    2. Kristin J. Forbes, 2007. "The Microeconomic Evidence on Capital Controls: No Free Lunch," NBER Chapters, in: Capital Controls and Capital Flows in Emerging Economies: Policies, Practices and Consequences, pages 171-202 National Bureau of Economic Research, Inc.
    3. Barry Eichengreen, Andrew K. Rose, and Charles Wyplosz., 1995. "Is There a Safe Passage to EMU? Evidence on Capital Controls and a Proposal," Center for International and Development Economics Research (CIDER) Working Papers C95-047, University of California at Berkeley.
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    7. Cavaglia, Stefano M F G & Verschoor, Willem F C & Wolff, Christian C P, 1994. "On the Biasedness of Forward Foreign Exchange Rates: Irrationality or Risk Premia?," The Journal of Business, University of Chicago Press, vol. 67(3), pages 321-43, July.
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    Cited by:
    1. Selim Elekdag & M. Ayhan Kose & Roberto Cardarelli, 2009. "Capital Inflows," IMF Working Papers 09/40, International Monetary Fund.

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