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Capital controls as a credit policy tool in a small open economy

  • Shigeto Kitano EMAIL logo and Kenya Takaku

Abstract

We develop a sticky price, small open economy model with financial frictions à la [Gertler, Mark, and Peter Karadi. 2011. “A Model of Unconventional Monetary Policy.” Journal of Monetary Economics 58 (1): 17–34.], in combination with liability dollarization. An agency problem between domestic financial intermediaries and foreign investors of emerging economies introduces financial frictions in the form of time-varying endogenous balance sheet constraints on the domestic financial intermediaries. We consider a shock that tightens the balance sheet constraint and show that capital controls, the effects of which are rigorously examined as a policy tool for the emerging economies, can be a credit policy tool to mitigate the negative shock.

JEL Classification: E44; E58; F32; F38; F41

Acknowledgement

An earlier version of the paper was circulated under the title “Capital Controls as an Alternative to Credit Policy in a Small Open Economy.” Earlier versions of the paper were presented at International Conference on Economic Integration and Economic Growth at the University of Washington, RoMacS seminar at Okayama University, and the Japan Society of Monetary Economics annual meeting at Kansai University. We are grateful to Masahiro Inoguchi and the participants for comments. We are especially grateful to two anonymous referees for their constructive comments that considerably improved this paper. This work was supported by JSPS KAKENHI Grant Number (15H05729, 16K03741).

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Published Online: 2017-10-11

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