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Capital Controls and Foreign Investor Subsidies Implicit in South Africa's Dual Exchange Rate System

  • Huizinga, Harry
  • Schaling, Eric
  • van der Windt, Peter C

Both in theory and practice, capital controls and dual exchange rate systems can be part of a country's optimal tax policy. We first show how a dual exchange rate system can be interpreted as a tax (or subsidy) on international capital income. We show that a dual exchange rate system, with separate commercial and financial exchange rates, drives a wedge between the domestic and foreign returns on comparable assets. As a borrower, the government itself is a direct beneficiary. Secondly, based on data from South Africa, we present empirical evidence of this revenue implicit in a dual exchange rate system; a revenue that amounted to as much as 0.1 percent of GDP for the South African government. However, this paper also shows that both the capital controls and the dual exchange rate system in South Africa gave rise to many perverse unanticipated effects. The latter may render capital controls and dual exchange rate systems unattractive in the end and, thereby, provides a rationale for the recent trend in exchange rate liberalization and unification.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 6347.

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Date of creation: Jun 2007
Date of revision:
Handle: RePEc:cpr:ceprdp:6347
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  1. Schaling, E., 2005. "Capital Controls, Two-tiered Exchange Rate Systems and the Exchange Rate Policy : The South African Experience," Discussion Paper 2005-110, Tilburg University, Center for Economic Research.
  2. R. M. Gidlow, 1976. "Exchange Control and the Blocked Rand Mechanism," South African Journal of Economics, Economic Society of South Africa, vol. 44(1), pages 52-58, 03.
  3. Newey, Whitney K & West, Kenneth D, 1987. "A Simple, Positive Semi-definite, Heteroskedasticity and Autocorrelation Consistent Covariance Matrix," Econometrica, Econometric Society, vol. 55(3), pages 703-08, May.
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  5. Jeremy Greenwood & Kent P. Kimbrough, 1985. "Capital Controls and Fiscal Policy in the World Economy," Canadian Journal of Economics, Canadian Economics Association, vol. 18(4), pages 743-65, November.
  6. Frenkel, Jacob A. & Razin, Assaf, 1989. "Exchange-rate management viewed as tax policies," European Economic Review, Elsevier, vol. 33(4), pages 761-781, April.
  7. Dickey, David A & Fuller, Wayne A, 1981. "Likelihood Ratio Statistics for Autoregressive Time Series with a Unit Root," Econometrica, Econometric Society, vol. 49(4), pages 1057-72, June.
  8. Jean-Christian Lambelet & Alexander Mihailov, 2005. "The Triple-Parity Law," Economics Discussion Papers 604, University of Essex, Department of Economics.
  9. Robert P. Flood & Nancy Peregrim Marion, 1980. "The Transmission of Disturbances under Alternative Exchange-Rate Regimeswith Optimal Indexing," NBER Working Papers 0500, National Bureau of Economic Research, Inc.
  10. Aizenman, Joshua & Guidotti, Pablo E., 1994. "Capital controls, collection costs and domestic public debt," Journal of International Money and Finance, Elsevier, vol. 13(1), pages 41-54, February.
  11. Harry Huizinga, 1996. "The Taxation Implicit in Two-Tiered Exchange Rate Systems," IMF Working Papers 96/120, International Monetary Fund.
  12. Huizinga, H.P., 1996. "The Taxation Implicit in Two-Tiered Exchange Rate Systems," Discussion Paper 1996-100, Tilburg University, Center for Economic Research.
  13. Giovannini, Alberto & de Melo, Martha, 1993. "Government Revenue from Financial Repression," American Economic Review, American Economic Association, vol. 83(4), pages 953-63, September.
  14. Adams, Charles & Greenwood, Jeremy, 1985. "Dual exchange rate systems and capital controls: An investigation," Journal of International Economics, Elsevier, vol. 18(1-2), pages 43-63, February.
  15. Dolado, Juan J & Jenkinson, Tim & Sosvilla-Rivero, Simon, 1990. " Cointegration and Unit Roots," Journal of Economic Surveys, Wiley Blackwell, vol. 4(3), pages 249-73.
  16. Joshua Aizenman, 1985. "On the Complementarity of Commercial Policy, Capital Controls and Inflation Tax," NBER Working Papers 1583, National Bureau of Economic Research, Inc.
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