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Capital Controls or Real Exchange Rate Policy?: A Pecuniary Externality Perspective

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Author Info

  • Gianluca Benigno
  • Huigang Chen
  • Christopher Otrok
  • Alessandro Rebucci
  • Eric R. Young

Abstract

In the aftermath of the global financial crisis, a new policy paradigm has emerged in which old-fashioned policies such as capital controls and other government distortions have become part of the standard policy tool kit (so called macro- prudential policies). On the wave of this seemingly unanimous policy consensus, a new strand of theoretical literature contends that capital controls are welfare enhancing and can be justified rigorously because of second-best considerations. Within the same theoretical framework adopted in this fast-growing literature, this paper shows that a credible commitment to support the exchange rate in crisis times always welfare-dominates prudential capital controls, as it can achieve unconstrained allocation.

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Bibliographic Info

Paper provided by Inter-American Development Bank in its series IDB Publications with number 80682.

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Date of creation: Mar 2013
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Handle: RePEc:idb:brikps:80682

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Keywords: Financial Sector; IDB-WP-393;

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References

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  1. Bianchi, Javier, 2009. "Overborrowing and Systemic Externalities in the Business Cycle," MPRA Paper 15114, University Library of Munich, Germany.
  2. Enrique Mendoza & Javier Bianchi, 2010. "Overborrowing, financial crises and ‘macro-prudential’ taxes," Proceedings, Federal Reserve Bank of San Francisco, issue Oct.
  3. Bianca De Paoli & Anna Lipinska, 2013. "Capital controls: a normative analysis," Staff Reports 600, Federal Reserve Bank of New York.
  4. Kehoe, Timothy J & Levine, David K, 1993. "Debt-Constrained Asset Markets," Review of Economic Studies, Wiley Blackwell, vol. 60(4), pages 865-88, October.
  5. Gianluca Benigno & Luca Fornaro, 2013. "The financial resource curse," LSE Research Online Documents on Economics 51557, London School of Economics and Political Science, LSE Library.
  6. Anton Korinek, 2011. "The New Economics of Prudential Capital Controls: A Research Agenda," IMF Economic Review, Palgrave Macmillan, vol. 59(3), pages 523-561, August.
  7. Nicolas E. Magud E. & Carmen M. & Kenneth S. Rogoff, 2011. "Capital Controls: Myth and Reality--A Portfolio Balance Approach," Working Paper Series WP11-7, Peterson Institute for International Economics.
  8. Ricardo J Caballero, 2010. "Sudden Financial Arrest," IMF Economic Review, Palgrave Macmillan, vol. 58(1), pages 6-36, August.
  9. Fabio Braggion & Lawrence J. Christiano & Jorge Roldos, 2007. "Optimal Monetary Policy in a 'Sudden Stop'," NBER Working Papers 13254, National Bureau of Economic Research, Inc.
  10. Jonathan David Ostry & Atish R. Ghosh & Anton Korinek, 2012. "Multilateral Aspects of Managing the Capital Account," IMF Staff Discussion Notes 12/10, International Monetary Fund.
  11. Paul Krugman, 1999. "Balance Sheets, the Transfer Problem, and Financial Crises," International Tax and Public Finance, Springer, vol. 6(4), pages 459-472, November.
  12. Bruce Ian Carlin & Shaun William Davies & Andrew Miles Iannaccone, 2010. "Competing for Attention in Financial Markets," NBER Working Papers 16085, National Bureau of Economic Research, Inc.
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Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Exchange rate commitment always beats capital controls
    by Economic Logician in Economic Logic on 2014-01-24 15:08:00
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Cited by:
  1. Davis, Scott & Presno, Ignacio, 2014. "Capital controls as an instrument of monetary policy," Globalization and Monetary Policy Institute Working Paper 171, Federal Reserve Bank of Dallas.
  2. Timothy J. Kehoe & Kim J. Ruhl & Joseph B. Steinberg, 2013. "What will happen when foreigners stop lending to the United States?," Economic Policy Paper 13-4, Federal Reserve Bank of Minneapolis.

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