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Capital Controls: a Normative Analysis

  • Anna Lipinska

    (Federal Reserve Board)

  • Bianca De Paoli

    (Federal Reserve Bank of New York)

Countries' concerns with the value of their currency have been extensively studied and documented in the literature. Capital controls can be (and often are) used as a tool to manage exchange rate áuctuations. This paper investigates whether countries can benefit from using such tool. We develop a welfare based analysis of whether (or, in fact, how) countries should tax international borrowing. Our results suggest that restricting international capital flows with the use of these taxes can be beneficial for individual countries although it would limit cross-border pooling of risk. This is because while consumption risk-pooling is important, individual countries also care about domestic output áuctuations. Moreover, the results show that countries decide to restrict the international flow of capital exactly when this flow is crucial to ensure cross-border risk-sharing. Our findings point to the possibility of costly "capital control wars" and, thus, significant gains from international policy coordination.

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Paper provided by Society for Economic Dynamics in its series 2013 Meeting Papers with number 861.

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Date of creation: 2013
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Handle: RePEc:red:sed013:861
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