Capital Controls and Foreign Currency Denomination

Guangling Liu () and Fernando Garcia-Barragan

No 415, 2017 Meeting Papers from Society for Economic Dynamics

Abstract: This paper studies the effectiveness of capital controls with foreign currency denomination on business cycle fluctuations and the implications for welfare. To do this, we develop a general equilibrium model with financial frictions and banking, in which assets and liabilities are denominated in both domestic and foreign currencies. We propose a non-pecuniary, capital-control policy that limits the gap between foreign-currency denominated loans and deposits to the amount of foreign funds that bankers can borrow from the international credit market. We show that capital controls have a significant impact on the dynamics of assets and liabilities that are denominated in foreign currency. The non-pecuniary capital controls help to stabilize the financial sector, thereby reducing the negative spillovers to the real economy. A more restrictive capital-control policy significantly weakens the welfare effect of the foreign monetary policy and exchange rate shocks.

Date: 2017
New Economics Papers: this item is included in nep-cba, nep-dge, nep-ifn, nep-mac, nep-mon and nep-opm
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Persistent link: https://EconPapers.repec.org/RePEc:red:sed017:415

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