The Search for a Framework
ADBI series on Asian Economic Integration and Cooperation
Edited by Masahiro Kawai and Mario B. Lamberte
Masahiro Kawai and Shinji Takagi INTRODUCTION 2.1 This chapter presents a brief survey of the literature on managing capital inflows, with a focus on developing and emerging market economies. The rest of the chapter is organized as follows. Section 2.2 discusses the economic characteristics of capital inflows, including a review of empirical work on the benefits of free capital mobility. Section 2.3 provides an overview of the evolution of thinking on the pace and sequencing of capital account liberalization. Section 2.4 discusses the use of capital controls as an instrument of managing capital inflows, while Section 2.5 reviews the effectiveness and limitations of conventional macroeconomic and structural (microeconomic) instruments. Finally, Section 2.6 presents concluding remarks. 2.2 2.2.1 CHARACTERISTICS OF CAPITAL INFLOWS Measuring the Benefits of Capital Mobility In a perfect world, capital moves from a country with a lower rate of return to a country with a higher rate of return. Compared with what would be the case under autarky, the higher-return country both invests and consumes more in the current period, and consumes more in the future while paying back the interest on international borrowing from greater income. On the other hand, the lower-return country produces more but invests less in the current period, and augments its consumption in the future from the interest income from international lending. It is easy to show that welfare is improved in both countries as interest rates are equalized internationally. In a perfect world, free capital mobility is welfare-enhancing (Fischer, 1998). There is...
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