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When Liberal Policies Reflect External Shocks, What Do We Learn?

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  • Leonardo Bartolini
  • Allan Drazen

Abstract

We present a model where policies of free capital mobility can signal governments' future policies, but the informativeness of the signal depends on the path of world interest rates. Capital flows to emerging markets reflect investors' perception of these markets' political risk. With low world interest rates, emerging markets experience a capital inflow and engage in a widespread policy of free capital mobility; with higher rates, only sufficiently committed countries allow free capital mobility, whereas others impose controls to trap capital onshore, thus signaling future policies affecting capital mobility. These predictions are consistent with the recent experience of capital flows and policies affecting capital mobility in developing countries.

Suggested Citation

  • Leonardo Bartolini & Allan Drazen, 1996. "When Liberal Policies Reflect External Shocks, What Do We Learn?," NBER Working Papers 5727, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:5727
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    More about this item

    JEL classification:

    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
    • C73 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Stochastic and Dynamic Games; Evolutionary Games

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