Kevin P. Gallagher and Yuan Tian
Regular Triple Crisis contributor Kevin P. Gallagher is an associate professor of international relations at Boston University and co-director of the Global Economic Governance Initiative (GEGI) and Global Development Policy Program. Yuan Tian is the CFLP Pre-Doctoral Fellow for GEGI’s Task Force on Regulating Global Capital Flows. She is currently a third-year PhD student in economics at Boston University.
In the wake of the 2008 financial crisis, the International Monetary Fund (IMF) began to publicly express support for ‘capital controls’ in emerging markets. In addition to public statements, and the endorsement of controls in Iceland, Ukraine, and beyond, the IMF underwent a systematic re-evaluation of Fund policy on the matter, and published an official view on the economics of capital flows in 2012. To the surprise of many who witnessed the IMF’s scorn for regulating capital flows in the 1990s, in this new ‘view’ the IMF concludes that capital account liberalization is not always the optimal policy and that there are situations where capital controls—rebranded as ‘capital flow management measures (CFMs)’—are appropriate.
It is well known that the IMF claims that it has changed its tune, but has it really changed its ways?
To shed light on this question, we built a database on CFMs and related policies for 31 emerging markets, covering emerging Asia, Latin America and Caribbean, Europe and Africa. This database included IMF Article IV Consultation Reports and Public Information Notices since 1998.
After generating the database we econometrically tested whether the IMF’s view on capital controls changed before and after the financial crises. According to our analysis, by and large, the IMF has indeed changed how it diagnoses economies in the presence (or retreat) of large capital flows, and the Fund is also more apt to at least partially support CFMs in the presence of large capital flows. These results are published in a working paper titled “Regulating Capital Flows in Emerging Markets: The IMF and the Global Financial Crisis,” as part of a broader project on the regulation of capital flows.
After controlling for other factors, we find that the IMF was more apt to see capital flows as a source of vulnerability—diagnosing capital flows as a source of vulnerability 23% more after the crisis than before it. The IMF’s level of support also appears to increase as a result of the crisis and as the vulnerabilities associated with capital flows are accentuated. The IMF supported controls in South Korea, Brazil, Iceland and beyond. The IMF also recommended that nations such as Mexico, Colombia, and South Africa deploy controls, though those nations declined.
These findings will come as a surprise, especially to readers of this blog. The theories of Post-Keynesian economists in the Minsky tradition have long seen merit in regulating capital flows for development, but such views had long been shunned in all but a few central banks, at the IMF, and among the mainstream of the economics profession.
As the forthcoming book, Ruling Capital: Emerging Markets and the Reregulation of Cross-border finance demonstrates, the IMF’s change of views was a function of three factors: emerging market countries demanded policy space under the IMF to regulate capital flows after the crisis; the IMF’s attempt to revitalize itself in the wake of the crisis by showing its willingness to change and sponsor new thinking; and new developments in the economics of capital flows that were embraced by leading IMF staff.
Although the IMF recognizes that CFMs can be appropriate in some circumstances, many analysts see those circumstances as too limited and express concern that there is little policy space to adequately regulate capital flows. In a 2012 Task Force report, we and others echoed a long-held view that nations should hold the right to have permanent counter-cyclical capital account regulations and that there are some cases when regulating capital flows should occur in both emerging market and industrialized countries. The IMF has taken a half step in the right direction, but there is still a ways to go.
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