Do Capital Controls Limit Inflow Surges?

DoCapitalControlsLimitInflowSurges? ApoorvBhargava,RomainBouis,AnnamariaKokenyne,ManuelPerezArchila,UmangRawat,andRatnaSahay WP/23/50 IMFWorkingPapersdescriberesearchinprogressbytheauthor(s)andarepublishedtoelicitcommentsandtoencouragedebate. TheviewsexpressedinIMFWorkingPapersarethoseoftheauthor(s)anddonotnecessarilyrepresenttheviewsoftheIMF,itsExecutiveBoard,orIMFmanagement. 2023 MAR ©2023InternationalMonetaryFundWP/23/50 IMFWorkingPaper MonetaryandCapitalMarketsDepartment DoCapitalControlsLimitInflowSurges? PreparedbyApoorvBhargava,RomainBouis,AnnamariaKokenyne,ManuelPerezArchila,UmangRawat,andRatnaSahay* AuthorizedfordistributionbyAnnamariaKokenyne March2023 IMFWorkingPapersdescriberesearchinprogressbytheauthor(s)andarepublishedtoelicitcommentsandtoencouragedebate.TheviewsexpressedinIMFWorkingPapersarethoseoftheauthor(s)anddonotnecessarilyrepresenttheviewsoftheIMF,itsExecutiveBoard,orIMFmanagement. ABSTRACT:Withrisingfinancialintegration,themagnitudeandswingsincapitalflowshaveincreasedinthepasttwodecades,intensifyingthepolicydebateonhowbesttodealwiththeseflows.Thispaperassessestheuseandeffectivenessofcapitalcontrolsinlimitinginflowsurges.Usinganoveldatasetoncapitalcontrolchangesacross40advancedandemergingmarketanddevelopingeconomiesover1995-2018,wefindthatthetighteningofcapitalcontrolsreducestheprobabilityoffuturesurgesbothattheaggregateandtheassetflowlevels.Theresultsarerobusttovariousdefinitionsofsurgesandarestrongerwhencontrolsarematchedtotheassetclasstheytarget.Finally,wealsofindsignificantmultilateralspilloversfromcapitalcontrolactions,pointingtowardstheneedforinternationalcooperationintheuseofthesepolicies. RECOMMENDEDCITATION: JELClassificationNumbers: F32;F38;G01;G28 Keywords: Capitalcontrols;capitalinflows;surges Author’sE-MailAddress: bits.apoorv@gmail.com;rbouis@imf.org;akokeny@imf.org;mp1278@princeton.edu;urawat@imf.org;rsahay@imf.org IMFWORKINGPAPERSDoCapitalControlsLimitInflowSurges? WORKINGPAPERS DoCapitalControlsLimitInflowSurges? PreparedbyApoorvBhargava,RomainBouis,AnnamariaKokenyne,ManuelPerezArchila,UmangRawat,andRatnaSahay1 1RomainBouisisasenioreconomistandAnnamariaKokenyneistheheadoftheCapitalFlowsUnitintheMonetaryandCapitalMarketsDepartment,UmangRawatisaneconomistintheAsiaandPacificDepartment,RatnaSahayisthesenioradvisorongenderintheOfficeoftheManagingDirector(allIMF),ApoorvBhargavaisaseniorassociateatBreakoutCapitalandManuelPerezArchilaisagraduatestudentatPrincetonUniversity.ThispaperbenefitedfromhelpfulcommentsandsuggestionsbyGurnainPasricha,ErlendNier,AndresFernandez,andparticipantsattheCEPRrisingAsiaworkshop.Anyerrorsandomissionsareours. Contents 1.INTRODUCTION3 2.DATAANDDESCRIPTIVESTATISTICS4 2.1Data5 2.2DescriptiveStatistics6 2.3SurgesofCapitalInflows8 3.ECONOMETRICANALYSIS12 3.1TheeffectsofCapitalControlsontheProbabilityofSurges12 3.2TheeffectofCapitalControlonAsset-SpecificSurges15 3.3MultilateralConsiderationsofCapitalControls:InternationalSpillovers17 4.CONCLUSION20 REFERENCES35 FIGURES 1.DescriptiveStatisticsofTightenedCapitalControlsonNonresidentInflows6 2.MeasuresIntroducedafterSustainedandLargeOutflows7 3.MeasuresIntroducedafterFinancialCrises8 4.DistributionofSurgesofVariousDefinitions9 5.ForbesSurges:TotalFlowsv/sAssetSpecific9 6.Distributionofthetimingofintroductionoftighteningwithrespecttosurges10 7.TighteningTimingwithRespecttoClosestSurge,ActualandRandom11 8.Goodness-of-FitTestforTighteningTimingwithRespecttoClosestSurge,ActualandRandom11 A.1.PercentageofCountriesExperiencingSurges33 A.2.PercentageofQuartersinwhichtheCountryisExperiencingSurges33 TABLES 1.ImpactofCapitalControlsontheProbabilityofSurges14 2.ImpactofCapitalControlsontheProbabilityofSurgesatAssetLev16 3.ImpactofCapitalControlsontheProbabilityofSurgesinOtherCountries19 ANNEXTABLES 1.TightenedCapitalControl21 2.VariableDescriptionandSources28 3.SummaryStatistics30 ANNEXES 1.MethodologyfortheIdentificationofSurges31 INTERNATIONALMONETARYFUND2 1.Introduction Capitalflowsurgesandreversalsassociatedwithincreasinginternationalintegrationoffinancialmarketshavelongbeenaconcernforpolicymakersandhasremainedamajorchallengeinrecentyears.Whilecapitalflowsaregenerallybeneficialforrecipienteconomies,formanyemergingmarketanddevelopingeconomies(EMDEs),flowshavebeenlargecomparedtothesizeofdomesticfinancialsystems,creatingchallengesfortheirefficientallocation.Whiletotalflowsrecoveredquicklyaftertheglobalfinancialcrisis(GFC),capitalflowstoEMDEsinparticularhaveexhibitedlargeswings.Severalperiodsofsustainedinflows—inpartdrivenbyprolongedeasymonetarypoliciesinadvancedeconomies(AEs)—werefollowedbysharpreversalsasglobalfinancialconditionstightened,suchasduringtheTaperTantrum,andmorerecently,theCOVID-19pandemicresultinginrepeatedsurgesandreversals. Countrieshavefolloweddifferentapproachestohandlecapitalflowvolatility,reflectingcountry-specificcircumstances.WhileAEswithopencapitalaccountsanddeepfinancialmarketshavegenerallyallowedtheirexchangeratestofloatfreely,manyEMDEshaveactivelyusedcapitalaccountmeasures,macropruden