capital controls – The Baseline Scenario

This guest post is by Arvind Subramanian, a senior fellow at the Peterson Institute for International Economics. His recent proposal that countries consider coordinated capital controls has stimulated a great deal of discussion, and here he explains how discouraging capital flows relates to arguments about the attractiveness of a Tobin-type tax.

Paul Krugman, in his Friday column for the New York Times, endorsed a tax on financial transactions, proposed recently by Adair Turner, Britain’s top financial regulator. It is important to distinguish this Turner proposal from the original Tobin tax on international flows and these two taxes in turn from the kind of coordinated capital controls I proposed in this blog post two weeks ago.

Tobin’s original idea was to discourage speculation by taxing flows of international capital. The Turner variant is to tax all financial transactions, domestic and international. What they have in common is that both are seen as structural measures to be applied regardless of the state of the macroeconomic cycle.

In contrast, the capital controls that are now being proposed are more in the spirit of “macroprudential” measures, to be taken in response to surges in international capital flows (and not to steady and permanent flows) to emerging markets that have the potential of creating bubbles in asset prices, including exchange rates. Such measures are therefore intended to be taken during the upswing of the cycle and not at all times. Continue reading “Coordinated Capital Controls: A Further Elaboration” →

If you are in charge of monetary policy in an up-and-coming Asian economy (say India, China, or Korea), you have a problem.

The world’s financial markets have decided that Asia is rebounding more quickly than most other parts of the world, and capital is rushing to get into those countries before asset prices rise too much.

The monetary policy authorities know this and – given what we have all seen over the past few years (or is that two decades?) – they are rightly worried about new “bubbles” of various kinds that can destabilize their financial systems and undermine their economies.

What should these central banks do? If you fear that your economy is growing too fast, and thus inflation is on the rise, responsible central bank mantra dictates that you should raise interest rates. The same mantra was, in the era of Alan Greenspan, less clear on whether interest rates should be increased to forestall unsustainable financial bubbles. With the puncturing of the Great American Bubble, including the fall of Greenspan as an icon, most central bankers are quietly quite willing to tighten monetary policy if they see real estate prices take off like a rocket.

But this is exactly where the problem lies. Continue reading “The Case for Capital Controls, Again” →