Capital Controls and Monetary Policy Autonomy in a Small Open Economy

38 Pages Posted: 8 Feb 2017

See all articles by J. Scott Davis

J. Scott Davis

Federal Reserve Banks - Federal Reserve Bank of Dallas

Ignacio Presno

Board of Governors of the Federal Reserve System

Date Written: 2017-02

Abstract

Is there a link between capital controls and monetary policy autonomy in a country with a floating currency? Shocks to capital flows into a small open economy lead to volatility in asset prices and credit supply. To lessen the impact of capital flows on financial instability, a central bank finds it optimal to use the domestic interest rate to "manage" the capital account. Capital account restrictions affect the behavior of optimal monetary policy following shocks to the foreign interest rate. Capital controls allow optimal monetary policy to focus less on the foreign interest rate and more on domestic variables.

Keywords: Capital controls, Credit constraints, Small open economy

JEL Classification: F32, F41, E52, E32

Suggested Citation

Davis, J. Scott and Presno, Ignacio, Capital Controls and Monetary Policy Autonomy in a Small Open Economy (2017-02). FRB International Finance Discussion Paper No. 1190. Available at SSRN: https://ssrn.com/abstract=2913455 or http://dx.doi.org/10.17016/IFDP.2017.1190

J. Scott Davis (Contact Author)

Federal Reserve Banks - Federal Reserve Bank of Dallas ( email )

2200 North Pearl Street
PO Box 655906
Dallas, TX 75265-5906
United States

Ignacio Presno

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

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