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

  • Eric Young

    (University of Virginia)

  • Alessandro Rebucci

    (Inter-American Development Bank)

  • Christopher Otrok

    (University of Missouri/St Louis Fed)

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 toolkit (the 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, we show that a credible commitment to support the exchange rate in crisis times always welfare-dominates prudential capital controls as it can achieve the unconstrained allocation.

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File URL: https://economicdynamics.org/meetpapers/2013/paper_641.pdf
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Paper provided by Society for Economic Dynamics in its series 2013 Meeting Papers with number 641.

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Date of creation: 2013
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Handle: RePEc:red:sed013:641
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Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA

Web page: http://www.EconomicDynamics.org/
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  1. Timothy J. Kehoe & David K. Levine, 1992. "Debt constrained asset markets," Working Papers 445, Federal Reserve Bank of Minneapolis.
  2. Anton Korinek, 2011. "The New Economics of Prudential Capital Controls: A Research Agenda," IMF Economic Review, Palgrave Macmillan;International Monetary Fund, vol. 59(3), pages 523-561, August.
  3. Benigno, Gianluca & Chen, Huigang & Otrok, Christopher & Rebucci, Alessandro & Young, Eric R., 2013. "Financial crises and macro-prudential policies," Journal of International Economics, Elsevier, vol. 89(2), pages 453-470.
  4. Ricardo J Caballero, 2010. "Sudden Financial Arrest," IMF Economic Review, Palgrave Macmillan;International Monetary Fund, vol. 58(1), pages 6-36, August.
  5. Gianluca Benigno & Huigang Chen & Christopher Otrok & Alessandro Rebucci & Eric R. Young, 2012. "Optimal Policy for Macro-Financial Stability," IDB Publications (Working Papers) 78701, Inter-American Development Bank.
  6. Nicolas Magud & Carmen Reinhart & Kenneth Rogoff, 2005. "Capital Controls: Myth and Reality A Portfolio Balance Approach to Capital Controls," University of Oregon Economics Department Working Papers 2006-10, University of Oregon Economics Department.
  7. Javier Bianchi, 2010. "Overborrowing and Systemic Externalities in the Business Cycle," 2010 Meeting Papers 96, Society for Economic Dynamics.
  8. Braggion, Fabio & Christiano, Lawrence J. & Roldos, Jorge, 2009. "Optimal monetary policy in a [`]sudden stop'," Journal of Monetary Economics, Elsevier, vol. 56(4), pages 582-595, May.
  9. 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.
  10. Enrique G. Mendoza & Javier Bianchi, 2010. "Overborrowing, financial crises and ‘macro-prudential’ taxes," Proceedings, Federal Reserve Bank of San Francisco, issue Oct.
  11. Anna Lipinska & Bianca De Paoli, 2013. "Capital Controls: a Normative Analysis," 2013 Meeting Papers 861, Society for Economic Dynamics.
  12. Paul Krugman, 1999. "Balance Sheets, the Transfer Problem, and Financial Crises," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 6(4), pages 459-472, November.
  13. Gianluca Benigno & Luca Fornaro, 2013. "The Financial Resource Curse," CEP Discussion Papers dp1217, Centre for Economic Performance, LSE.
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