Capital Flows: Expansionary or Contractionary?
Olivier Blanchard, Jonathan D. Ostry, Atish R. Ghosh, Marcos Chamon
American Economic Review · 2016 · Volume 106 · Issue 5
Abstract
The workhorse open-economy macro model suggests that capital inflows are contractionary because they appreciate the currency and reduce net exports. Emerging market policy makers, however, believe that inflows lead to credit booms and rising output; the evidence appears to go their way. To reconcile theory and reality, we extend the set of assets in the Mundell-Fleming model to include both bonds and non-bonds. At a given policy rate, inflows may decrease the rate on non-bonds, stimulating financial intermediation and, potentially, output as well. We explore the implications, and find support for the key predictions in the data.
Keywords
Interest Rates: Determination, Term Structure, and Effects, Financial Markets and the Macroeconomy, Monetary Policy, Foreign Exchange, Current Account Adjustment, Short-Term Capital Movements
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