Capital Controls and Monetary Policy Autonomy in a Small Open Economy

RePEc Short ID: pda415
ORCID iD: 0000-0002-8522-8826

Davis, J. Scott; Presno, Ignacio

doi:10.17016/IFDP.2017.1190

Working Paper

Capital Controls and Monetary Policy Autonomy in a Small Open Economy

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;

https://doi.org/10.17016/IFDP.2017.1190