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The Impossible Trinity – from the Policy Trilemma to the Policy Quadrilemma

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  • Aizenman, Joshua

Abstract

The policy Trilemma (the ability to accomplish only two policy objectives out of financialintegration, exchange rate stability and monetary autonomy) remains a valid macroeconomicframework. The financial globalization during 1990s-2000s reduced the weighted average ofexchange rate stability and monetary autonomy. An unintended consequence of financialglobalization is the growing exposure of developing countries to capital flights, and deleveragingcrises. The significant costs associated with these crises added financial stability to the Trilemmapolicy goals, modifying the Trilemma framework into the policy Quadrilemma. Emergingmarkets frequently coupled their growing financial integration with sizable hoarding of reserves,as means of self-insuring their growing exposure to financial turbulences. The global financialcrisis of 2008-9 illustrated both the usefulness and the limitations of hoarding reserves as a selfinsurancemechanism. The massive deleveraging initiated by OECD countries in 2008 mayprovide the impetus for some emerging markets to impose “soft capital controls,†in the form ofregulations that restrain inflows of short terms funds. While modifying the global financialarchitecture to deal with the challenges of the 21th Centaury remains a work in progress, theextended Trilemma framework keeps providing useful insights about the trade-offs andchallenges facing policy makers, investors, and central banks.

Suggested Citation

  • Aizenman, Joshua, 2011. "The Impossible Trinity – from the Policy Trilemma to the Policy Quadrilemma," Santa Cruz Department of Economics, Working Paper Series qt8cq7g4c9, Department of Economics, UC Santa Cruz.
  • Handle: RePEc:cdl:ucscec:qt8cq7g4c9
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    1. Maurice Obstfeld & Jay C. Shambaugh & Alan M. Taylor, 2004. "Monetary Sovereignty, Exchange Rates, and Capital Controls: The Trilemma in the Interwar Period," IMF Staff Papers, Palgrave Macmillan, vol. 51(s1), pages 75-108, June.
    2. Frankel, Jeffrey & Schmukler, Sergio L. & Serven, Luis, 2004. "Global transmission of interest rates: monetary independence and currency regime," Journal of International Money and Finance, Elsevier, vol. 23(5), pages 701-733, September.
    3. Joshua Aizenman & Jaewoo Lee, 2007. "International Reserves: Precautionary Versus Mercantilist Views, Theory and Evidence," Open Economies Review, Springer, vol. 18(2), pages 191-214, April.
    4. Aizenman, Joshua & Chinn, Menzie D. & Ito, Hiro, 2010. "The emerging global financial architecture: Tracing and evaluating new patterns of the trilemma configuration," Journal of International Money and Finance, Elsevier, vol. 29(4), pages 615-641, June.
    5. Maurice Obstfeld & Kenneth Rogoff, 1995. "The Mirage of Fixed Exchange Rates," Journal of Economic Perspectives, American Economic Association, vol. 9(4), pages 73-96, Fall.
    6. Aizenman, Joshua & Marion, Nancy, 2003. "The high demand for international reserves in the Far East: What is going on?," Journal of the Japanese and International Economies, Elsevier, vol. 17(3), pages 370-400, September.
    7. Olivier Jeanne, 2007. "International Reserves in Emerging Market Countries: Too Much of a Good Thing?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 38(1), pages 1-80.
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    Cited by:

    1. Aizenman, Joshua & Ito, Hiro, 2012. "Trilemma policy convergence patterns and output volatility," The North American Journal of Economics and Finance, Elsevier, vol. 23(3), pages 269-285.
    2. Zorobabel Bicaba & Zuzana Brixiova & Mthuli Ncube, 2015. "Working Paper - 217 - Capital Account Policies, IMF Programs and Growth in Developing Regions," Working Paper Series 2155, African Development Bank.
    3. Giancarlo Marini & Giovanni Piersanti, 2012. "Models of Speculative Attacks and Crashes in International Capital Markets," CEIS Research Paper 245, Tor Vergata University, CEIS, revised 24 Jul 2012.
    4. Joshua Aizenman & Menzie David Chinn & Hiro Ito, 2013. "The “Impossible Trinity” Hypothesis in an Era of Global Imbalances: Measurement and Testing," Review of International Economics, Wiley Blackwell, vol. 21(3), pages 447-458, August.
    5. Pablo Pincheira, 2013. "Interventions and inflation expectations in an inflation targeting economy," BIS Working Papers 427, Bank for International Settlements.
    6. Zorobabel Bicaba & Zuzana Brixiov?? & Mthuli Ncube, 2014. "Capital Account Policies, Imf Programs And Growth In Developing Regions," William Davidson Institute Working Papers Series wp1085, William Davidson Institute at the University of Michigan.

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