Pick Your Poison: The Choices and Consequences of Policy Responses to Crises
Kristin J. Forbes
Massachusetts Institute of Technology (MIT) - Sloan School of Management; National Bureau of Economic Research (NBER)
Michael W. Klein
Tufts University - The Fletcher School of Law and Diplomacy; National Bureau of Economic Research (NBER)
November 16, 2013
MIT Sloan Research Paper No. 5062-13
Countries choose different strategies when responding to crises. It is challenging to assess the impact of these policy choices on key variables, however, because of endogeneity and selection bias. This paper addresses these challenges by using propensity-score matching to estimate how major reserve sales, large currency depreciations, substantial changes in policy interest rates, and increased controls on capital outflows affect real GDP growth, unemployment, and inflation during two periods marked by crises, 1997 to 2001 and 2007 to 2011. We find that sharp currency depreciations and major reserve sales significantly raise GDP growth (albeit with a lagged effect and after an initial contraction) and also increase inflation (especially depreciations). These policies have weaker benefits and greater costs in emerging and non-OECD economies (especially reserve sales). Estimates also show that increasing interest rates and new controls on capital outflows significantly lower GDP growth.
Number of Pages in PDF File: 46
Keywords: Crisis response, depreciation, capital controls, interest rate policy, foreign exchange reserves, propensity score matching
JEL Classification: F41working papers series
Date posted: December 12, 2013
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