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Exchange Controls

Paper Session

Friday, Jan. 5, 2024 2:30 PM - 4:30 PM (CST)

Grand Hyatt, Lone Star Ballroom Salon F
Hosted By: American Economic Association
  • Chair: Stephanie Schmitt-Grohé, Columbia University

Balance of Payments Crises under Capital Controls

P. Andrés Neumeyer
,
Torcuato Di Tella University
Emilio Espino
,
Torcuato Di Tella University

Abstract

We study Krugman-style inconsistent monetary and exchange rate policies in a perfect foresight model with no capital mobility and dual exchange rates. Reserve dynamics work with the logic of the monetary approach to the balance of payments and delay the collapse of the fixed exchange rate and the onset of higher inflation. At the time of the collapse, there is an anticipated devaluation. Before the collapse, consumption, domestic real interest rates, and the financial exchange rate increase monotonically. Import restrictions that force current account balance avoid the crisis at the cost of higher inflation and an exchange rate premium that diverges. The exchange rate premium is an implicit tax on imports and inefficiently shifts production from the export sector to the nontradable sector.   

Sanctions and the Exchange Rate

Oleg Itskhoki
,
University of California-Los Angeles
Dima Mukhin
,
London School of Economics

Abstract

Trade wars and financial sanctions are again becoming an increasingly common part of the international economic landscape, and the dynamics of the exchange rate are often used in real-time to evaluate the effectiveness of sanctions and policy responses. We show that sanctions limiting a country’s exports or freezing its assets depreciate the exchange rate, while sanctions limiting imports appreciate it, even when both types of policies have exactly the same effect on real allocations, including household welfare and government fiscal revenues. Beyond the direct effect from sanctions, increased precautionary savings in foreign currency also depreciate the exchange rate, when they cannot be offset by the sale of offcial reserves or financial repression of foreign-currency savings. Furthermore, the government may choose to compensate sanctions-induced fiscal deficits with an exchange rate depreciation using either monetary loosening or FX accumulation; the former solution comes at a cost of higher inflation, while the latter policy provides only a temporary relief. The overall effect on the exchange rate depends on the balance of foreign currency demand and supply forces. We show that the dynamics of the ruble exchange rate following Russia’s invasion of Ukraine in February 2022 are quantitatively consistent with the combined effects of these forces calibrated to the observed sanctions and government policies.

Exchange Controls as a Fiscal Instrument

Martin Uribe
,
Columbia University
Stephanie Schmitt-Grohé
,
Columbia University

Abstract

About 20 percent of countries employ dual, multiple, or parallel exchange rates, which represent a distortionary tax on external trade. We show that they also reduce the government's external debt burden. Both channels generate fiscal revenue. We study an optimal taxation problem where chronic fiscal deficits must be financed with money creation and exchange controls. For plausible calibrations, when exchange controls apply equally to exports and imports, their optimal level is virtually zero. If instead the policymaker can apply distinct exchange rates to imports and exports, the optimal policy consists in moderate controls on exports and no controls on imports.

Discussant(s)
Pablo Ottonello
,
University of Michigan
Thomas Drechsel
,
University of Maryland
Eduardo Davila
,
Yale University
JEL Classifications
  • F4 - Macroeconomic Aspects of International Trade and Finance